How Do you Pay Your Employees When Money is Tight?
You need to bring employees on board to build your company and make a difference with your business.
But you’re low on cash and concerned that you can’t pay enough money to hire and keep new employees.
So how do you pay your employees when money is tight and you’re low on cash?
One way is to offer “equity” compensation by using your company’s stock to sweeten the compensation packages for new hires and existing employees.
Two of the most common ways to provide equity compensation are restricted stock grants and stock option grants. These two alternatives have vesting terms so that the employees have to work for the equity over time. Do not give stock straight up to your employees with no ability to pull back the shares if the employment relationship goes sideways
Below are key points to consider when granting restricted stock or stock options:
- The employee who receives the restricted stock is a stockholder from day one.
- Board approval is required to issue the restricted stock.
- Taxable income may be an issue for the employee if the stock is worth more than what is paid for it.
- It is critical to impose stock vesting over time so that some or all of the stock can be repurchased if the employee leaves before the stock is fully vested.
- Remember that, with vesting, the employee will need to file an 83(b) Election with the IRS within 30 days after the stock is received.
- The one-year capital gains clock starts to run as soon as the stock is received.
- Restricted stock typically is used for one-off employment situations, such as the hire of a new executive.
- There is more initial cost to prepare and approve the stock option plan, including related securities law filings and payments.
- Board and stockholder approvals are required for the stock option plan.
- An outside valuation expert should set the value of the shares underlying the stock options on an annual basis.
- Board approval is required for each individual stock option grant and the exercise price of the underlying shares must equal the fair market value per share at the time of grant.
- Special terms apply if the option recipient owns more than 10% of the company’s stock.
- No tax issues typically arise at the time of the option grant, but careful planning is recommended to determine the best time to exercise the stock option and optimize the after-tax value.
- A stock option plan will be more cost effective if you plan to grant stock options to many employees and consultants.
Careful planning is critical when using either type of equity compensation so that you can navigate your cash crunch in the proper way.
It also is important to explain to your employees how the equity compensation works – receiving restricted stock or a stock option will be a lot less valuable to the employee if he or she does not understand how it works and its underlying value.
How do you compensate employees when cash is low? Which of the two alternatives will best serve the needs of your company as you startup and grow? Let us know how you plan to start and grow.