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To 83(b) or Not to 83(b) (Part 2 of 2)

The tax implications of failing to file an 83(b) election when receiving restricted equity can sting.

The tax implications of failing to file an 83(b) election when receiving restricted equity can sting.

 

Let’s further examine the impact of failing to file an 83(b) election with a hypothetical.

A Hypothetical

Assume that the founder is granted 1,000,000 shares at a par value of $0.0001 in the startup on a four-year vesting plan and is subject to an income tax rate of 33%.

83(b).v2

As you can see, the tax savings from filing the 83(b) election are drastic.  Founders filing an 83(b) election, who pay for their equity with a nominal capital contribution, will actually recognize no ordinary income and therefore pay zero income tax at formation.  In addition, the founder making the 83(b) election will start the holding period upon receiving the restricted equity.  Accordingly, that founder will increase the likelihood of paying long term capital gains tax rates on an eventual sale of the equity.

In addition to the increased tax payments, failing to file the 83(b) election can also cause logistical problems.  Assuming a standard vesting schedule of 4 years, with a one-year cliff, once a founder stays in service to the startup for more than a year, the founder’s equity will be vesting on a monthly basis.  This will result in the founder recognizing ordinary income every month and therefore likely having to estimate the fair market value of that equity on a monthly basis.  This can all be avoided by properly filing the 83(b) election within 30 days of receiving restricted equity.

Also see Part 1 of 2 on 83(b) elections.

 

One Response to To 83(b) or Not to 83(b) (Part 2 of 2)

  1. Pingback: To 83(b) or Not to 83(b) (Part 1 of 2) | Wolverine Startup Law

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