Equity can be a big asset when it comes to recruiting and retaining talent at companies, especially startups. Everyone has heard the stories of tech employees who have benefited from receiving equity compensation that translated to significant earnings when a company had an exit or public offering.
But for startup employees, understanding equity compensation and its role in personal finances can be challenging, and even the most seasoned employees get tripped up when it comes to it. In fact, approximately 41% of startup employees see minimal value in equity compensation, and 87% of employees want professional help regarding personal finances.
As a company, it can be hard to answer employee questions about equity compensation, but it’s a good idea to ensure employees have at least a baseline understanding.
Here are four key things that are worth helping your employees and candidates to understand.
1. Equity Is an Important Piece of Total Rewards
As an HR leader, you spend time being thoughtful about your total rewards package, including the benefits you offer employees, bonuses, performance incentives, and compensation structures. But for employees who have never received equity compensation, it can be challenging to fully understand the role it plays in total compensation.
While you want to make it clear that there are no guarantees when it comes to equity, you also want to help employees appreciate the role equity could play in the long run. By having tools in place that help you visualize the value of compensation, you can let employees understand how it could impact their future earnings.
2. The Value of Equity Can Change Over Time Depending on Your Company’s Growth
The way equity is valued can be confusing for many employees when it isn’t a publicly traded stock that has immediate liquidity. At a startup, equity can be valued based on the 409a, which is also known as the fair market value, a third-party evaluation that determines the value of a company at a certain point in time. A startup also could be evaluated based on the last round preferred, which is what investors paid in the last financing round.
When an employee joins a company early, they are granted equity at a specific value. If a company grows and the value of its equity changes, they can benefit from upside as the value of their shares increases over time. Helping employees place tangible value, even if only an approximation, is important to enabling them to fully grasp the potential upside of being part of a growth company.
3. For Most Employees, Your Equity Has to Vest Before You Have the Ability To Own It
It’s important for employees to understand that they don’t immediately earn the equity that is mentioned in an offer letter. They need to also be familiar with vesting and have a firm grasp on the concept that the amount of time they spend at the company determines what portion of their equity they earn.
A common structure for this is a one-year cliff with a four-year vest with a monthly vesting thereafter. Until the employee reaches their one-year anniversary, they don’t receive any equity. At that time, they unlock 25% of their equity, and then earn the rest on a monthly basis going forward.
While some companies host onboarding sessions for employees who are joining the company to go over terms like vesting, you can also outsource this to third parties who are experts in equity and can answer questions employees may have about their specific grants.
4. Equity Is Subject to Taxes, and How It Is Taxed Depends on the Details in Your Grant
How equity is taxed varies based on the type of compensation that an employee receives, meaning that the tax treatment can vary greatly depending on the type of equity, as well as the terms of the agreement. The critical piece here is that employees understand upfront how they could be taxed so that they aren’t hit with any surprise tax bills.
The tax treatment of equity can bring in a lot of unfamiliar terms for employees. For example, did the business qualify for qualified small business stock? Did you have the ability to exercise? How long have you held your equity? Do you qualify for long-term capital gains?
These are just a few of the determining factors that come into play. It can be helpful for employees to seek out the help of a professional or a financial wellness benefit that includes access to financial professionals who specialize in equity.
How to Support Employees
At the end of the day, equity can be a powerful tool for companies and can carry significant benefits for employees. However, it can be challenging to articulate the value and help employees navigate decisions around equity compensation, and it can be time-consuming for HR teams to assist employees with what they should consider when it comes to their unique scenario. Today there are benefits like Addition Wealth, which focus on helping employees learn about and navigate equity compensation.
Interested in learning more? Visit additionwealth.com.
