Employee Equity Options for the Business Owner

Increasingly my company clients have been requesting solutions for their goals of offering employee’s equity. There are a few ways to address this and so I always back up and ask what the Company is trying to accomplish. I hesitate to set up a full employee equity plan out of the gate because they are frankly challenging and expensive to administer for benefits that are not always appreciate or needed.

For instance, if a company’s goal is to align its employee’s incentives and reward them if the company does well, I immediately suggest a Profit Sharing Plan (aka Phantom Stock Plan or ‘Churched-up bonus plan’). I will refer to this option as the “Bonus Solution.” These are infinitely simpler to administer than any actual equity grants with pretty much the same impact. If a Company balks at a Bonus Solution, it is typically for one of two reasons:

(1)   The Company’s employees are particularly sophisticated or work in an industry where true equity grants are ubiquitous, and they are expecting actual equity ownership; and/or

(2)   The Company’s employees are high net worth individuals who will not want to pay full income tax rates on money received through a Bonus Plan.

 If employees have their hearts set on equity I try to understand why and come up with an alternative solution to address those particular concerns. For instance, sometimes increase in employee titles combined with a Bonus Solution can be effective. Or sometimes I will endeavor to draft the Bonus Solution to be in line with the verbiage the Company has already been using to describe it.

For more information on the care with which the Bonus Solution should be drafted, please see the upcoming post on Profit Sharing Plans and 409A concerns.

 In the event a Company is concerned about the taxation implication to its recipients, we will discuss the applicable equity grants (for a limited liability company there are Profit Interest and for a corporation there are Option grants). Those Plans are more costly to administer largely because of the 409A valuation considerations but can be well worth it when they are the right fit. In addition to the taxation implications, one very notable difference between the Bonus Solution and a true equity grant is that true equity is not so easily taken away from an employee if their employment is terminated, etc. Accordingly, a savvy employee will find them much more attractive.

If you’d like to explore the best equity incentive plan for your Company, please contact Sara Sharp.