This article deals with the question of employee stock options mainly as they relate to public companies. However, stock options are just as popular with private companies especially those planning a future public offering.
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Why not just give shares? In the case of both private and public companies, stock options are used instead of simply "giving" shares to employees. This is done for tax reasons. The only time when shares can be "given" without adverse tax consequences is when a company is founded, i. At this stage, founders and employees can all be given stock instead of options.
But as a company evolves, the shares grow in value. If an investment is made into the company, the shares assume a value. If shares are then just "given" to someone, that person is deemed to have been compensated at whatever the fair market value is of those shares and is subject to that income. But stock option grants are not taxable at the time of being granted. Hence, their popularity. But, as much as I'm a big fan of options, I thought it might be useful to devote most if this article to explain what they are, how they work, and some very serious and onerous implications for both option holders, the company, and investors.
In theory and in a perfect world, options are wonderful. I love the concept: Your company grants you as an employee, director, or advisor an option to buy some shares in the company. An option is simply a contractual right given to the option holder the optionee whereby the holder has the irrevocable right to buy a certain number of shares in the company at a specified price.
Business Basics - Stock Options (Incentive)
It should be noted that there are no prescribed rules or terms associated with options. They are discretionary and each option agreement, or grant, is unique. Generally, though, the "rules" are: 1 the number of options granted to an individual depends on that employee's "value". This varies greatly from company to company.
The Board if directors makes the decision as to how many options to grant. There's a lot of discretion. NB - although companies can give a slight discount, i. I've seen some cases where they are valid for 10 years for private companies, they may be valid forever once they have vested.
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Options may be the best way, tax-wise, through which new people can be brought on board, instead of simply giving them shares which have inherent value. This prevents people from benefiting prematurely and cashing in before really having contributed to the company.
This is at the discretion of the company - it is not a regulatory matter. Jill can now provided her options have "vested" exercise her options, i. Jill exercises and sells all of her 10, shares on the same day. She gets taxed as if she got a paycheque from the company in fact - the company will issue her a T4 income tax slip next February so that she can then pay her taxes in her annual return.
How can I sell my private company stock?
In this regard, her gain is treated like a capital gain - but it is still considered employment income why? Taxation takes place at 2 stages i. The author is a Jaipur based practicing Chartered Accountant and can be reached on , [email protected]. Your email address will not be published. Post Comment. Notice: It seems you have Javascript disabled in your Browser.
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A typical lifecycle of ESOP can be depicted as under: 6. Total number of shares arising as a result of exercise of options; Exercise Price; Variation of terms of options; Money realized by exercise of options; Total no.
What should I consider before selling private company shares?
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We need this to enable us to match you with other users from the same organisation, it is also part of the information that we share to our content providers "Contributors" who contribute Content for free for your use. Learn More Accept. Your LinkedIn Connections with the authors. To print this article, all you need is to be registered or login on Mondaq. This article is prepared to provide a general guide to the subject matter. The Companies Act, As per Section 62 1 b of the Act, an unlisted private limited company can issue further shares to employees under a scheme of Employees' Stock Option "ESOPs " , pursuant to a special resolution.
Rule 12 1 defines "Employee" as: a a permanent employee of the company who has been working in India or outside India; or b a director of the company, whether a whole time director or not but excluding an independent director; or c an employee as defined in clauses a or b of a subsidiary, in India or outside India, or of a holding company of the company or of an associate company.
Once a private limited company identifies employees who are eligible to avail benefits under the ESOP Scheme, the company is required to comply with the following requirements: The Employees Stock Option Scheme needs to be approved by the shareholders of the company by passing a special resolution. The company is required to make the following disclosures, in the explanatory statement annexed to the notice for passing of the resolution: The total number of stock options to be granted; identification of classes of employees entitled to participate in the Employees Stock Option Scheme; the appraisal process for determining the eligibility of employees to the Employees Stock Option Scheme; the requirements of vesting and period of vesting; the maximum period within which the options shall be vested; the exercise price or the formula for arriving at the same; the exercise period and process of exercise; the lock-in period, if any; the maximum number of options to be granted per employee and in aggregate; the method which the company shall use to value its options; the conditions under which option vested in employees may lapse e.
The companies granting option to their employees pursuant to ESOPs Scheme can determine the exercise price in conformity with the applicable accounting policies, if any. The company may by special resolution, vary the terms of ESOPs Scheme not yet exercised by the employees provided such variation is not prejudicial to the interests of the option holders. The notice for passing special resolution for variation of terms of ESOP Scheme shall disclose full of the variation, the rationale therefore, and the details of the employees who are beneficiaries of such variation.
The amount, if any, payable by the employees, at the time of grant of option- a may be forfeited by the company if the option is not exercised by the employees within the exercise period; or b the amount may be refunded to the employees if the options are not vested due to non-fulfilment of conditions relating to vesting of option as per the ESOP Scheme. The board of directors of the company, shall, inter alia, disclose in the Directors' Report for the year the following details such as i the options granted, vested, exercised and lapsed, ii the total number of shares arising as a result of exercise of options iii the exercise price, iv variation of terms of options, v money realized by exercise of options, vi total number of options in force, and vii employee wise details of options granted to the key managerial personnel, any other employees and identified employees.
Compliances In addition to the above requirements, the company is required to comply with the following compliances as per Rule 12 10 of the Rules: a Maintain a Register of Employee Stock Options in Form No.