If you’re a startup founder, executive, or employee, your company’s IPO might be your first experience with managing wealth. While an influx of cash is certainly a blessing, it also brings new challenges into your life. What you do the year leading up to IPO day can make an immense difference in your pre-and after-tax gains and your capacity to reach your highest financial goals. Follow these five tips to set yourself up for success.
1. Identify your goals.
Having more money is great, but it’s what you do with it that makes a real difference in your life and the lives of others. Having concrete ideas about what you’ll do with new wealth will enable you to use it in support of what you most deeply value. Goal setting should be the first step in any financial plan. Spend some time brainstorming short, medium, and long-term goals. Consider things like vacations, paying off debt, home purchases, education funding, retirement, charitable contributions, and leaving resources for the next generation.
2. Identify your holdings.
Companies can offer several types of equity to their employees, and each type comes with a different set of rules and tax consequences (and in some cases, tax benefits). Be sure to understand which of the following are in your portfolio:
- Stock options
- Restricted stock
- Restricted stock units
- Single-trigger RSUs
- Double-trigger RSUs
- Qualified small business stock
3. Be aware of key early decisions.
Some decisions must be made early in the IPO process. If you’re not aware of them, you may miss out on opportunities to increase your gains or limit your tax liability.
Some companies allow early employees to exercise stock options before they vest. Before IPO, the fair market value of a company’s stock is often close to the strike price (the price of exercising options). Because the difference between these two prices is included in federal income tax calculations, keeping the gap small limits tax liability on the transaction. On the other hand, taxes are limited precisely because you’re getting less of a bargain in the deal. Before deciding to early exercise, it’s important to understand the strength of your company and your risk of loss.
If you exercise stock options early, you’ll need to file an 83(b) election within 30 days of exercise to indicate your intention to declare the bargain element as income as of the date of exercise rather than at the time your shares vest. If you own restricted stock, you may also file an 83(b) election within 30 days of granting to make the fair market value of your shares (less any price you paid for them) reportable as income on the date of filing. Bear in mind, however, that if the share price declines rather than rises between the time of your filing and your shares’ vesting, you will not be eligible for any refund of excess tax that you paid.
4. Create a financial plan and investment strategy with your goals in mind.
Once you have a clear set of goals, it’s time to sit down with a fiduciary financial and investment advisor to create a strategy to reach them. Working with a fiduciary is important because these are the only financial professionals who are legally required to act in your best interest. If an advisor is not a fiduciary, then they are free to promote products and investments that most benefit them, regardless of whether they’re the best fit for you. Take the time to find an advisor with proven expertise who seeks to understand your goals and priorities so they can devise the right plan for you.
An important part of a pre-IPO financial plan is a share sales strategy. Following IPO, you will likely have a large position in your own company, creating an imbalanced portfolio and heightening your risk of loss. Work with your investment advisor to plan when and how much to sell as well as where to reinvest the proceeds to create appropriate diversification.
Following IPO, nearly all early investors are subject to a lockup period. This typically prevents early investors, insiders, and employees from selling shares for the first six months, although this time may be longer or shorter, and different lockup periods may apply to different groups of investors within a company.
Even after the lockup has expired, employees are often subject to blackout periods, which apply when they possess material nonpublic information about the company. However, a 10b5-1 sales plan can allow you to avoid these additional restrictions. A 10b5-1 plan is a binding contract that specifies when and how much of a stock you will sell at a specified time or event. By creating your plan at a time when you are not in possession of material nonpublic information about the company, you can avoid the appearance of insider trading that blackout periods are designed to prevent.
5. Work with a tax planning professional who understands the IPO process.
The IPO process is fraught with complex tax issues that are specific to early investors. Be sure to develop a tax plan with a professional who has experience working with pre-IPO employees. IPO-savvy tax professionals can guide you through early exercise and 83(b) filing, active tax loss harvesting, navigating the alternative minimum tax, charitable giving, wealth transfers, and more.
Effective wealth management requires understanding of complex and ever-changing tax rules as well as financial planning, investment management, and advanced estate planning strategies. You can start the IPO process out right by clarifying your goals and seeking out trusted financial professionals who specialize in working with people like you. For more insights about how to realize your vision for the future, subscribe to WRP’s blog or access our free resource library.