Startup Venture, shareholding, ESOP

[Nage42]

Bit of a bother around what is "best practices" around a startup venture that is still at seed level, and how to benefit the employees without presenting any negative element to the company.

Currently working with the CEO and founders to present the best way (where best is defined as easy for the company to do, and maximum benefit to the employees).

Seems the ESOP on the IRAS websites is very structured towards listed/big companies. ESOPs are ghost shares that are essentially just an accounting entry tied to the value of shares, but not actually shares.


The _intentions_ of the founders are to provide key early employees with actual equity ownership of the company, where the shares will vest in 3 years (retention device). They already have a pool of issued shares reserved for this purpose, so they are actual shares allocated currently in the ownership of the founders, they are not yet-to-be-issued.

Our thoughts were that if the seed value (as listed in the shareholder agreement) are being bought at $0.10, then this is the "value" of them? But their actual value is zero until the vesting, and then at that instant their value is "market price," whatever that may be.

The desire is to treat them as an equity instrument, that they are a gift that is given at essentially a value of zero (they cannot be exercised), and if the company improves, then this is capital gains appreciation (which should not be taxed)... no?

An accountant friend of mine who worked for one of the big 4 explained to me that "there is wording in the ESOP that defines the value, and the outcome is that they pay zero tax," but I can't get any hard references to this, including an email query to IRAS where they explain that the ESOP will be treated as taxable income on the delta between the purchase price and the sale price at or after vesting... The shares are owned by the founders until vesting and those gains are capital gains appreciation, no?

But there is no purchase price... and it should only be income on the delta of after vesting till sale... so if the shares are sold at vesting, then there is zero delta = zero tax.

In practice the big 4 achieve this, but how is it done?

I know the complex structure would be to put the shares into Trustee ownership and reserve their benefit to the employees (i.e., the proceeds could be transferred after say, moving to Vanuatu for a year....), but it's expensive to setup a purpose-built Trust for a startup that may or man not "make it big."

I'm totally sure an industry veteran knows exactly what is supposed to happen here, but even consulting with a legal firm yielded: "just leave it up to IRAS, they will tax it as income." That seems like a big steaming pile of Sub-Optimal.


Advice requested.

[taxico]

...a startup venture that is still at seed level, and how to benefit the employees without presenting any negative element to the company...

...The desire is to treat them as an equity instrument, that they are a gift that is given at essentially a value of zero (they cannot be exercised), and if the company improves, then this is capital gains appreciation...

why? and whose idea was this? (investor(s)/founders()/guy-they-met-at-the-meetup-they-attended-last-year?)

IME employees want to be paid, paid on time, and preferably be well paid (not always in that order).

i think the local staff that have been hired are generally not the sort that will be attracted or particularly motivated by such options... (maybe) unless it's properly venture backed... by a really reputable company.

your efforts and company funds may be better spent elsewhere.

[Nage42]

Heya;

Thanks for your opinion.

Can I paraphrase it as:

"Local employees just want salary and want to take zero risk." Is it correct?

I don't disagree with you for locals, and indeed this is a big reason why Singapore may never succeed to be a venture startup scene: what with the clusterf... that EPs and S-Pass are for foreign talent when locals won't take any risk... ever.


By way of adding value to this post, there is an important clause in local tax law of a "deemed exercised," where if you move away to become non-resident (for whatever reason... i.e., your EP expires), then all equity shares are considered to be exercised from a tax perspective... which can possibly be a nightmare as a forced income event when the company has no liquidity (i.e., you're sitting on unvested equity, but a big tax bill comes due on possibly zero-dollar shares).

/golfclap Singapore for really encouraging the venture startup scene by strangling small startups with bringing forward tax events on unrealized possible profits but only if they are gains and not losses.