One of the best recruiting tools that a start-up can offer is stock options. Many young companies don’t have the cash to attract new talent–and plenty of big companies want to offer something more than just a salary to their employees. People like to have some equity in the firms they work for and that’s why stock option plans have been so popular.
In a typical plan, an employee gets awarded options to purchase a stock at its fair market value on the day of the award. It’s typical that options vest over a period of time–say five years–to keep the employees loyal. As options vest, an employee can choose at that time to exercise and then buy the stock. Hopefully the stock price has risen since the option was issued so a profit can be made. Current law will tax the employee only when a stock option is exercised and a gain on the purchase of shares is recognized.
But new tax reform legislation being considered by the Senate aims to change that. The Senate’s plan would tax any gain for a stock option when an employee receives the right to own–or vest in– the stock, regardless of whether the option is exercised. Essentially this means an employee will get taxed on a stock without even technically owning it. The House’s plan, which is slated to be voted on this week, does not contain this provision.
Big shots in Silicon Valley are making their concerns known. Y Combinator president Sam Altman, Facebook co-founder Dustin Moskovitz and PayPal co-founder Max Levchin are urging the Senate to get rid of the proposal. Other companies are joining in the fight.
“A startup’s ability to issue stock options levels the playing field by giving potential employees something unique: the ability to share in the company’s rewards as well as its risks and participate in the upside of a new and exciting venture,” companies including Lyft, Medium, and Vimeo wrote in a letter to the Senate, according to this report from Inc.com.
Fred Wilson, a well-known venture capitalist at Union Square Ventures, warns that the measure would “be the end of equity compensation in start-ups as we know it.”
The good news for these opponents is that there is still a way to go before any of this becomes reality. In the likely event that the House passes its tax reform package this week, the Senate Finance Committee still has to approve the Senate’s plan before it’s voted on sometime after Thanksgiving. There will then be a few weeks of reconciliation where, at any stage, this proposal may be withdrawn before a bill is sent to the president’s desk for signing.