U.S. tax break could push startups to
share the wealth
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[December 22, 2017]
By Heather Somerville
SAN FRANCISCO (Reuters) - Startup companies
came away with a significant victory in the U.S. tax overhaul -- a
chance to defer the often-onerous tax bill that is attached to company
stock options.
To get the tax break, companies must provide stock options to at least
80 percent of their workforce, a requirement that could prompt startups
to spread the option wealth more widely.
Employees with options are commonly required to exercise them within 10
years, or within three months of leaving a startup. The gains on those
shares is taxed as income, and the tax bill can easily climb to hundreds
of thousands of dollars for early employees at a successful startup, say
tax experts. The value of a stock option package can be worth about 10
times an employee's salary, said Mary Russell, an attorney who counsels
individuals on their startup equity offers.
But employees face a big challenge when the startup is not yet public
and they cannot sell the shares for cash to pay the taxes.
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Now, private-company employees will be able to defer those taxes for up
to five years. Certain top executives and high earners will not qualify.
"I feel a sense of relief that I have more time to figure things out,"
said Jamil Poonja, head of public policy and communications at San
Francisco startup Stride Health, who has part of his compensation in
options.
But the provision's fairly restrictive rules mandate that companies must
provide stock options to at least 80 percent of their employees to be
eligible for the new tax deferral.
"That might change the way people allocate equity," said Kate Mitchell,
co-founder of Scale Venture Partners. "But there is value in
distributing it across the company."
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A woman looks at her smartphone as she attends the NYC Startup Job
Fair in New York, April 11, 2014. The fair expects to connect more
than 1,000 job seekers with dozens of New York-based startup
companies. REUTERS/Carlo Allegri
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Startups vary in how they grant stock options to employees. The
common practice among venture-backed companies is to carve out 20
percent of their total equity to distribute to employees, said Anand
Sanwal, CEO of data firm CB Insights, which tracks startups.
The new tax provision responds to a problem created by the shifting
investment dynamics in Silicon Valley. In the dot-com era, companies
went public after an average of four years. Today, the average age
is 11. That means employees have much of their wealth tied up in
options that cannot be sold on the public stock markets for more
than a decade.
Many resort to taking out loans or, in more extreme cases,
abandoning their shares, said attorneys and founders.
"Sometimes people don't or can't or won't write that big of a
check," said Jason van den Brand, co-founder of home refinance
startup Lenda. "They're like 'This is going to cost me $50,000,
where am I going to get that?'"
(Reporting by Heather Somerville. Editing by Jonathan Weber and Lisa
Shumaker)
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