When a fashion company is just getting started, I often receive this question, “can I offer my independent contractors or employees equity in my company instead of a paycheck?” This blog post will give you an introduction into when this  compensation option may be appropriate. Like all Law On The Runway posts, this blog is simply an introduction to a topic with general information, not legal advice. Securities laws are nuanced and complex, so speak to an attorney before attempting to offer equity as compensation.

When offering equity to an individual, the default rule that your company must register the stocks options with state and federal government entities. The filing of these forms and the fees associated with these forms make this option prohibitively complicated and expensive for most startups. Therefore, new companies rely on exceptions to the registration requirements. For federal requirements, these exceptions are found within the amended Securities Law Act of 1933.

Employee Compensation

Rule 701 of the amended Securities Law Act of 1933 does allow a company to give both employees and independent contractors equity in a company, as payment for their services. However there are limits on how much can be given. Rule 701 requires that the total sale of the stock (during a 12 month span) cannot exceed these limits:

1. $1 million
2. 15% of the issuer’s total assets (looking at your latest balance sheet of assess), or
3. 15% of all the outstanding securities within a stock class (such as preferred or common)

These employee compensation deals must be in carefully written documents detailing out the plan of how the stock will be issued and any restrictions on the ownership.

*If you issue more than $5 million worth of securities a year, these additional disclosures that must be added into the agreements.

Independent Contractor Compensation

Independent contractors can receive similar deals as employees, but to be clear, this exception is only for individuals who are acting as independent contractors. You cannot use this exception to compensate a company who is providing services to you.  Additionally, this person must be fulfilling an actual advisory or work producing role. You cannot use this exception to give someone stock who wouldn’t normally qualify under another exception, so be sure to document how your company will benefit from their services. Again, this must be detailed in a written agreement.

California State Law Rules

Since Law On The Runway operates in California, we’re also going to briefly touch on the state law rules.

When you are issuing securities to California residents, you must file a Notice of Issuance with the Department of Business Oversight. To view this form: http://www.dbo.ca.gov/forms/Corporate_Securities_Law/DBO_25102o.pdf

You must also include specific language inside of your equity agreements, which a lawyer can draft for you.

Keep these rules in mind as you consider equity compensation for your employees and independent contractors. A variety of additional regulations and laws do apply, so please consult with an attorney before offering equity to any employees or independent contractors in lieu of payment. If you’d like to ask questions or contract Law On The Runway, please email [email protected]