
Open Guide to Equity Compensation - zalzal
https://github.com/jlevy/og-equity-compensation
======
grellas
This is generally a nice guide for anyone wanting to get an overview of equity
compensation issues affecting startup employees.

There is one error I caught, where it says that "restricted" stock is called
"restricted" owing to the fact that securities laws restrict one's right to
resell such stock.

While it is true that the securities laws do use this terminology to describe
the stock of closely-held companies (and in that sense the use of the term of
is accurate), all common stock granted in a closely-held company is restricted
in this sense, whether or not it is subject to vesting - that is, it must
generally be held for a stipulated period as set forth under Rule 144 before
it can be resold by the recipient (Rule 144 technically applies only to public
company stock but applies by analogy to that of closely-held stock).

In the startup context, "restricted" stock refers to stock that is granted to
a recipient but made subject to a repurchase option by which the company may
repurchase it at cost on termination of a service relationship. That is, the
stock is subject to a substantial risk of forfeiture until it vests. For tax
purposes, such stock is not deemed to be owned, and is not subject to tax,
until the risk of forfeiture goes away (i.e., it vests). This in turn creates
a substantial tax risk to the holder of the stock because there is an
immediate tax on the value of the spread (difference between what was paid for
the stock and its fair market value at each vesting point), a risk that is
eliminated if a timely 83(b) election is filed within 30 days of grant but not
otherwise.

If stock is granted without any vesting requirements (i.e., an outright grant)
it is referred to in common startup parlance as an "unrestricted" grant. Such
stock is "restricted" stock in the securities law sense that it generally
can't immediately be resold or transferred without complying with the Rule 144
tests. But this is a technical issue for the lawyers. For every practical
purpose relevant to founders and employees, it can be treated, as the street
parlance says, as an "unrestricted" grant because there are no vesting
requirements.

Sorry if this is too technical for this thread. But this is an important
technical point that is mis-stated in this guide.

A brief observation: when stock options first became widely useful in the
startup world in the 1980s, ISOs conferred a huge benefit to employees because
you could be assured that you could exercise them when they vested without any
practical tax risk whatever. Over the years, however, AMT, though first
enacted in the 1960s as a "millionaire's tax" to ensure that the wealthy could
not easily manipulate tax deductions to avoid paying any tax whatever, evolved
into a general catch-all tax that is now used to fill serious deficiencies in
the U.S. tax code and that now ensnares many people making pretty average
incomes. Once that happened, it effectively killed many of the once-very-
special tax advantages of ISOs for employees and turned ISOs into a form of
equity compensation that is only slightly more favorable for employees and is
often a real disadvantage (for example, the notorious 90-day tail for
exercising vested options on termination of employment derives directly from
tax-code rules imposed as special restrictions on ISOs alone but today
functions to entrap many employees into having to stay in undesirable
employment situations far beyond what they intended on pain of losing their
vested options altogether if they quit).

A final theoretical observation on best types of grants in order of
preference: first, unrestricted grants (here, you own it all and can't
theoretically ever lose it and you usually have zero tax risk while trying to
hold for long-term capital gains); second, restricted stock at a cheap price
with a timely 83(b) election (while it vests, and you can forfeit it, the tax
picture is near-ideal in giving you a path to long-term capital gains tax
treatment with no landmines along the way); third, ISOs with a low strike
price and an early exercise privilege (with these, you exercise early, file an
83(b) election, and in effect get the equivalent of a restricted stock grant);
fourth, ISOs or NQOs without a 90-day tail on termination (these give you
maximum flexibility to trying to work around or at least postpone potentially
detrimental tax events while being able to wait as long as 10 years before
being at risk of losing vested options); fifth, and worst of all from a tax
standpoint, RSUs (which really are a super-high-value startup's way of
granting very nice bonuses to employees in situations where the very high
price of its stock makes it tax-prohibitive to use any other more favorable
equity compensation vehicle). Of course, this is theoretical only and you get
what you get in the real world depending on whether you are a founder, an
early-stage employee, or a later-stage employee and depending as well on what
is negotiated with investors concerning any restrictions they may insist upon
as conditions to their investments.

Just a few thoughts on what is, overall, a nice guide to equity compensation.

~~~
insulanian
> This guide applies to companies in the United States.

Can anyone from Germany (or EU) provide some information on how much of this
is applicable to Germany?

~~~
reinhardt
Someone created an issue to add non-US content: [https://github.com/jlevy/og-
equity-compensation/issues/26](https://github.com/jlevy/og-equity-
compensation/issues/26)

------
zalzal
This is Josh, of the authors of the Guide. First, thanks to everyone for the
comments and feedback.

Also, please remember this is a GitHub project for a reason! This guide has a
lot of shortcomings as it's very new, but our goal for this is to be a
"living" guide, not yet another read-and-comment blog post. After commenting
here, please consider filing an issue or PR with questions or suggested
improvements. A community as talented as this one knows vastly more
collectively than any individual authors. We can then discuss and work to get
suggestions incorporated.

~~~
crabasa
> Also, please remember this is a GitHub project for a reason!

Totally understand. I've upvoted your comment, hope everyone else does as well
so that people can see this first before expending energy on a comment that
should have simply been a PR (or at least a filed issue).

~~~
zalzal
Thank you! Love HN discussions but also want to see corrections and comments
work their way back to the original doc.

------
stygiansonic
Kudos for putting this together. The guide is long, but worthwhile if you're
going to be in this situation.

The employer-employee relationship is generally relatively straightforward if
you're being paid in regular income/on contract: It's easy to put a value on
what you're being paid because that is part of the contract. When you're being
granted equity, things get complicated because now you have an ownership
interest or something that's economically similar to this.

In order to value this, you have to understand the capital structure and
corporate structure of your company. This can get complex, as the guide shows.

Of course, even if you fully understand these principles, the value of your
equity stake may not be certain because the value of your company is not
certain; but it will help you answer the question: _How much will my equity
stake be worth if my company is sold for X dollars?_

If you don't fully understand how your equity value ties to the company's
value, you could end up like the employees of Good Technology:

[http://www.bloombergview.com/articles/2015-12-23/good-
techno...](http://www.bloombergview.com/articles/2015-12-23/good-technology-
wasn-t-so-good-for-employees)

~~~
stygiansonic
As an addendum: An example of capital structure. (Based on debt capital rather
than equity capital, but just an example)

You and Fred have a common friend, Bob. Bob wants to start a new business and
needs to borrow money.

First, Bob borrows $10,000 from Fred and later on, Bob borrows $20,000 from
you.

Some months go by, and the business isn't doing well; Bob (or rather, his
company) eventually files for bankruptcy, listing $6,000 in assets. How should
this remaining value be distributed among you and Fred, which both have a
claim to it because of the debt owed to you?

One way to divide up the remaining amount would be in a _pro rata_ method: Bob
borrowed $30,000 total, 1/3rd of which was from Fred and 2/3rds of which was
from you. So, you should get $4,000 and Fred should get $2,000. (This is known
as _pari passu_ I believe)

However, this isn't the only way things could be done. One could say that
because Fred lent money first, he should get _paid back in full_ before you
do. Or perhaps one could argue the opposite.

You could argue back and forth about what the most "fair" way to divide up the
assets is, but in reality what matters is what the rules outlined in capital
structure specify. They should define who gets paid out first, which debt is
subordinate to other debt, etc. (And even then, it's not always entirely
clear, as evidenced by lengthy bankruptcy proceedings at large companies)

------
Phemist
Although I'm from the Netherlands, I read these articles with great interest.
Some wisdoms are transferable (e.g., equity being worth only as much as the
company is valuated at right now, rather than what it might be in the future),
but many also aren't, such as specific ways in which options, equity etc. are
taxated. Are there any "guides for humans" out there that are specifically
aimed at us Europeans? (Or, even more specific, us Dutchies?)

~~~
kspaans
Or even us polite, frozen neighbours! It's in the news more lately because the
newly elected government says it wants to change some of the tax rules around
stock options.

~~~
Phemist
Perhaps splitting the content into universal and US-only advice would allow
other (more knowledgeable) individuals to build on the universal advice and
give more location-dependent advice separately?

~~~
zalzal
It's a bit messy to do this, but yes. See comment above.

------
justinmk
The private company I work for issues stock "promises" on fancy certificates.
Each certificate claims to be worth X shares for an estimated value of Y.

Clearly they are not stock options, nor RSUs nor anything fancy or official
like that. They are just fancy certificates with unverifiable claims. Is there
any legal or financial value to these things? Is there a name for these types
of pseudo-stocks? Where in the linked article is this discussed?

~~~
ryandrake
LOL. I have a coffee mug that says "World's Best Dad" at home (it looks very
fancy). Does that mean I am really the best?

~~~
tyre
Reminds me of Will Ferrell in Elf:

> You did it! Congratulations! World's best cup of coffee! Great job,
> everybody! It's great to meet you.

------
eloff
Stock options are super-complicated, there are many gotchas, and there can be
serious tax implications. Like having to pay taxes on "profits" from
exercising options before having the revenue from selling them, which may
prevent options from being exercised. I think all these drawbacks often make
stock options have near zero value in the eyes of employees. Which makes it
not that fit for purpose, which is supposedly to motivate your employees and
align their interests with those of the company.

Is there a better way? If you run a startup and you want to achieve the same
ends of providing a form of compensation that's tied to the future success of
the company, but doesn't involve immediate outlay of funds, how would you
structure it? It should be as simple and straightforward as possible with a
minimum of gotchas, and avoid tax implications as much as possible. I'm kind
of surprised YCombinator hasn't innovated anything in this space, like they
did with "the Safe"[1].

What about something along the lines of making a pool of X% of the gross
revenue of the company each year, and dividing that among all the creative
employees fairly, and adjusted by how many months of the year the employee was
at the company. Then just paying that out every year as the end of year bonus.

[1] [https://blog.ycombinator.com/announcing-the-safe-a-
replaceme...](https://blog.ycombinator.com/announcing-the-safe-a-replacement-
for-convertible-notes)

~~~
loumf
It's better for a growth business to use profits to grow, not as compensation.
Plans like you describe are what typical profit-sharing bonuses look like in
more mature companies (or ones that aren't planning to ever exit).

The easiest fix is to set the expiry after you leave the company to ~10 years
rather than 90 days. In that case, you have your entire tenure + 10 years for
the company to have some kind of exit.

If that were the case, you could simply exercise at the point when the stock
was liquid and you would never have to pay tax before then. There would still
be reasons to early-exercise (to get the clock ticking on capital gains), but
that's something that incurs risk -- you never need to do it if you don't want
to (and you don't lose the options if you don't)

~~~
eloff
Well, one could simply modify it to giving points to the employees and
delaying the payouts until the company can afford it, then doing it by points
so that those who've been at the company longer get more.

Anyway the details can be anything allowable by law, the question is can we do
better than stock options. I feel the answer to that must be yes.

~~~
loumf
Many companies are never profitable before exit. Stock is already this point
system where we call the payouts dividends. Growth companies don't pay
dividends and they wouldn't want to pay point-payouts either.

If you want this, you can have it by joining a company with a profit-sharing
plan. It's fairly common.

~~~
eloff
Typically movie stars negotiate a tiny % of gross revenue in their contract.
They used to negotiate for % of profit, but studios got very good at fiddling
with the numbers for the film until a successful movie had nearly no profit.

I don't see why that can't be done for software engineers. That is essentially
dividends though, and it's obvious why growth companies don't want to do that.
But it's also not clear that stock options have the intended motivating effect
(it's not even clear that increases in salary or some kind of profit sharing
would have the intended effect either[1])

I think it's clear that stock options are sub-optimal for the intended
purpose, but it's not obvious to me how to fix that.

[1]
[https://www.youtube.com/watch?v=u6XAPnuFjJc](https://www.youtube.com/watch?v=u6XAPnuFjJc)

------
throwaway1124
In seed stage companies, what is the disadvantage of enabling your employees
to early exercise and bonus-ing or loaning them the capital to do so?

The advantage seem clear: employees can get 25-35% more equity at effectively
no cost difference to the company.

~~~
enra
I don't know if there is a way to avoid this issue with some lawyering but
loaning money for options was apparently somewhat common in the 90s tech
bubble. [1]

Unfortunately what happened was that when the bubble burst, and many companies
went under, the board and management resigned, leaving the company in the
mercy of creditors. These creditors sometimes when after these employee loans
and they had to pay them back while the stock they received was worthless.

[1]: [https://www.fenwick.com/publications/pages/playing-with-
fire...](https://www.fenwick.com/publications/pages/playing-with-fire-loans-
to-exercise-options.aspx)

------
iterateoften
Shameless plug: I'm an engineer at eShares, and we have been making a big push
to bring transparency to employee compensation. Last month we published a
guide for option grants, which includes information on taxes, vesting,
expirations, etc. Another good source to help figure out what you are agreeing
to.

[https://blog.esharesinc.com/understand-your-options-
equity-1...](https://blog.esharesinc.com/understand-your-options-
equity-101-for-startup-employees-part-1-6eaea8cfcb4#.odexoltyr)

------
jkempe11
What's the best way to find a tax professional that can help with one's
specific situation? I see references to Teaspiller all over Quora, but it's
apparently shut down :(

Any advice here?

~~~
kspaans
Check on personal finance sites for references for Financial Planners or
Financial Advisors. If you only want tax advice and not
investing/budgeting/estate planning, that should be cheaper. (I looked on
reddit.com/r/peronsalfinance, but didn't immediately see any listings of
advisors.)

EDIT: removed redundant phrasing

------
Spoom
Has anyone here had phantom stock options? I would love to see more details on
how they tend to work, and if they have actually paid off for people.

~~~
zalzal
[https://github.com/jlevy/og-equity-
compensation/issues/31](https://github.com/jlevy/og-equity-
compensation/issues/31)

------
gsibble
From the guide:

"RSUs are less attractive than options from a tax point of view because you
cannot make an 83(b) election with respect to an RSU."

I'm fairly sure this is incorrect. Every other guide that I've read (just
google RSUs 83b) says that you can file an 83B with RSUs and I've personally
filed 83Bs with RSUs multiple times.

~~~
YuriNiyazov
I am fairly sure that you are incorrect. There are no consequences to filing
an 83B with RSUs - you can send it to the IRS, and you will get no response
back; they will not send you a letter that says "you did wrong".

The question to ask in this case is: later in the life of your employment with
the company, when settlement happened and you received stock in exchange for
your RSUs, did you owe tax immediately on that stock? If you did, then you
filing an 83B was meaningless.

~~~
gsibble
I always get responses back saying that the 83B was accepted.

------
crudbug
Thanks for this.

------
paulpauper
This is the first time I've seen a github used for non programming purpose

~~~
jschulenklopper
It has happened before. Some examples are:

\- German federal law and regulations:
[https://github.com/bundestag/gesetze](https://github.com/bundestag/gesetze)

\- DMCA takedown notices:
[https://github.com/github/dmca](https://github.com/github/dmca)

\- Map of US districts: [https://github.com/benbalter/congressional-
districts](https://github.com/benbalter/congressional-districts)

\- a novel: [https://github.com/JJ/hoborg](https://github.com/JJ/hoborg)

\- a well-known textbook on some niche (homotopy type theory) in mathematics:
[https://github.com/HoTT/book](https://github.com/HoTT/book)

\- fonts: [https://github.com/theleagueof](https://github.com/theleagueof)

\- Gregorian chants: [https://github.com/CMAA/nova-organi-
harmonia](https://github.com/CMAA/nova-organi-harmonia)

Main collaboration functions on a 'repository' (or any set of data / documents
that somehow belong together) such as forking and branching are not just only
relevant to programming.

(edit: formatting)

~~~
joeax
Also a couple of my favorites:

\- Remote job information: [https://github.com/lukasz-madon/awesome-remote-
job](https://github.com/lukasz-madon/awesome-remote-job)

\- Liberland constitution:
[https://github.com/liberland/constitution](https://github.com/liberland/constitution)

------
aluhut
Nice. Thank you.

Now is there anywhere a tool to make this readable after print?

~~~
moron4hire
A technique I've used in the past that usually works well:

Right-click the page and hit "Inspect Element". Scan through elements, looking
for the ones that only refer to the header or footer stuff you don't want.
Click them and hit "delete" on your keyboard.

Find the container that defines the width of the content you're viewing. Use
the style editor to reset it to 100% (often, it's just disabling whatever
width setting they're using, rather than explicitly setting it to 100%).

You should be able to CTRL+P from there and get yourself a PDF out of it. Then
you can do whatever you want to the PDF. I think you could also just save the
raw HTML, and the browser will preserve your edits.

~~~
aluhut
This is a brilliant idea. Thank you.

~~~
tvmalsv
If you are using Firefox, you can also use the Add-on "HackTheWeb" [1] that
automates the suggestion by moron4hire.

Right-click on the page, and select "HackTheWeb". Whatever page element you
hover your pointer over will be given a red border, and then you use hotkeys
to perform actions.

To do the same thing as the example above, it would be: right-click on page,
select HackTheWeb, point mouse at the content you want, hit "w" (widen) until
you have the whole section you want, and then "i" (isolate) to remove
everything else. From there you're ready to print to PDF.

For some reason I had to be viewing the actual README.md file, not looking at
GitHub's auto-readme-display.

HackTheWeb also lets you view the element's javascript, show the xpath of
element, and convert text to black on white (very useful for content whose
text and background colors don't work well together).

I've used it for several years, and wouldn't want to give it up. It's based on
the old Aardvark add-on that did the same kind of thing, but Aardvark wasn't
updated as Firefox matured and eventually no longer worked.

[1]
[https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&c...](https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=1&cad=rja&uact=8&ved=0ahUKEwjl3vCB5aLKAhXGtBoKHRBTDrIQFggdMAA&url=https%3A%2F%2Faddons.mozilla.org%2Fen-
US%2Ffirefox%2Faddon%2Fhack-the-
web%2F&usg=AFQjCNGrYsAQqb0NXBIAENCELikb3TP1tg&sig2=VJ31G1EsDqRMIHqathCNXA)

------
kelukelugames
I spent $10k to exercise options last year. What are the chance that I at
least break even?

~~~
mikeg8
impossible to answer without knowing any other information.

~~~
kelukelugames
Are there general statistics? Like x% of companies don't pay back their
investors.

~~~
abalashov
Impossible to know without knowing anything else about the company. :-)

