Will my company be acquired or go public?

Oct 24, 2018

Guest Blog by Beata Dragovics, Founder Freedom Trail Financial, LLC

New Rules Allow For 5-Year Tax Deferral on Stock Option and RSU Exercise for Privately Held Companies

Many of my clients who work for privately held life sciences companies receive non-qualified stock options (NQSOs) and restricted stock units (RSUs) as part of their compensation packages. These are great tools for building wealth.

However, as with all forms of equity compensation, you need to be aware of the tax ramifications. The good news when it comes to NQSOs and RSUs is that, thanks to last year’s Tax Cuts & Jobs Act, you can now defer taxes on the exercise of these investments for up to five years.

Under Section 83(i) of the Act, privately held companies can offer this benefit to their employees, provided they offer grants to at least 80% of eligible employees. However, anyone who was a 1% owner at any time during the prior 10 calendar years, current and former CEOs and CFOs, family members of 1% owners, CEOs, and CFOs, and the four highest-paid company officers over the past 10 years are ineligible.

If you want to defer paying federal taxes on this income for up to five years, you must elect an 83(i) election within 30 days of NQSO exercise or RSU vesting. However, you will still have to pay Social Security, Medicare, and state taxes in the year in which you exercise options or RSUs vest.

Of course, one of the questions when it comes to NQSOs and RSUs from a private company is whether the company will go public or be acquired. Because unless that happens, you may find it difficult to sell your company stock due to the lack of a liquid market. Even with companies that are in a late pre-IPO stage, there is no guarantee the company will go public.

Remember that you should only consider taking advantage of an 83(i) deferral strategy if your cash flow allows, because you are exercising options that are currently illiquid. You should be aware that the tax deferral period will end immediately if your company goes public or if you decide to revoke the election.

Be sure to consult a tax advisor before taking an 83(i) election, especially if you expect that your company will go public within five years or potentially be acquired.

Do you have a financial planning issue you would like us to feature in our next Financial Intelligence guest post? We would like to hear and learn about your most pressing financial questions. Feel free to submit questions for us at bdragovics@freedomtrailfinancial.com

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