Offering equity compensation for employees is one of the most powerful tools a startup has to attract, retain, and motivate top talent. But while equity can align your team’s incentives with long-term growth, it also comes with complex legal, tax, and compliance considerations.
At Faison Law Group, we help founders structure startup equity plans that make sense for both the business and the employees, while ensuring you stay compliant with state and federal laws. See our Equity Legal Guide for more information.
What Is Equity Compensation?
Equity compensation gives employees ownership in the company, usually in the form of stock options, restricted stock, or profit interests. Instead of (or in addition to) a salary, employees receive a stake in the company’s future value; giving them a reason to help the business grow.
Why Offer Equity to Employees?
Offering equity is especially important for startups that are:
● Tight on cash but need top-tier talent
● Scaling rapidly and want to reward early contributors
● Building a team that’s invested in the long-term outcome
● Planning for a future acquisition or IPO
Key Benefits of Employee Equity:
● Attract high-quality hires without high salaries
● Increase employee loyalty and reduce turnover
● Align team goals with company growth
● Offer a competitive compensation package in tech and startup industries
Types of Equity Compensation for Startups
Choosing the right type of equity is essential. Each option has unique implications for taxation, vesting, and company control.
1. Stock Options
The most common form of startup equity, stock options, give employees the right to purchase shares at a set price (the strike price) after a vesting period.
● Incentive Stock Options (ISOs) – Tax-advantaged; available only to employees
● Non-Qualified Stock Options (NSOs) – Offered to employees, contractors, and advisors
2. Restricted Stock Awards (RSAs)
These are actual shares granted upfront, often with reverse vesting conditions. Reverse vesting is where the full shares are owned upfront, but those shares are “unvested” and subject to being forfeited if the founder exits the company before they are vested. Ideal for co-founders because they get to vote all of their shares up front, even if they are subject to forfeiture.
3. Restricted Stock Units (RSUs)
Employees are “granted” the shares, and don’t have to pay for them. The downside is that recipients are taxed on the value of the shares. Often used by later-stage companies. Not eligible for 83(b) election.
4. Profit Interests (for LLCs)
Instead of stock, LLCs can grant profit interests; a form of equity tied to future company profits. Common in service-based and tech LLCs.
5. Stock Options vs Restricted Stock
Options give rights to buy shares later, while RSAs grant shares upfront with potential forfeiture.
Equity is a Security
The SEC, as well as the States’ Offices of the Attorney General consider employee equity an “offer and sale” of securities. Therefore, if not properly handled, companies can be subject to severe penalties by the SEC and the States. Any equity award should be a component of a carefully drafted equity incentive plan, which should satisfy both IRS and SEC requirements. [INSERT PLUG FOR FAISON LAW GROUP. ALSO MAY WANT TO INSERT VIDEO LINK from relevant YouTube clip]
Key Considerations When Offering Equity
Structuring a smart equity compensation plan requires attention to legal, tax, and business factors. Understand startup equity compensation tax obligations to avoid IRS penalties. Here’s what you need to consider:
● Vesting Schedule – A standard equity vesting schedule startup founders use is 4 years with a 1-year cliff.
● 409A Valuation – A proper 409a valuation startup equity assessment ensures fair strike pricing and IRS compliance.
● Cap Table Management – Track ownership carefully to avoid future disputes
● Transfer Restrictions – Rules to limit how freely recipients can sell and transfer the company’s equity.
● Compliance with SEC & IRS Rules – Including Rule 701 and 409A regulations
Learn more about how startups can stay compliant with SEC rules in our guide on SEC Compliance for Startups.
How Faison Law Group Supports Your Equity Strategy
We draft employee equity agreements startup teams need to stay protected and compliant. Our attorneys help startups design equity compensation packages that meet business goals, satisfy investors, and protect founders. From equity plan design to securities compliance, we provide comprehensive legal guidance every step of the way.
Need help choosing between an option pool, RSUs, or profit interests? We can help.
Final Thoughts: Build a Team That’s Invested in Your Mission
A well-structured equity compensation plan isn’t just a perk, it’s a strategic move that attracts aligned talent, supports growth, and positions your company for funding or acquisition.
Learn more in our resource library.
Schedule a consultation with Faison Law Group to create an equity plan that works for your startup and your team.
The information provided herein is for general informational purposes only and does not constitute legal advice, nor does it create an attorney-client relationship. You should consult a qualified attorney for advice regarding your specific legal situation or compliance obligations.