The NASPP Blog

April 17, 2015

CIC: The Death of Automatic Accelerated Vesting?

Last week a tiny blurb in the blog caught my eye. What it said was: “Last week, the Council of Institutional Investors approved a policy opposing automatic accelerated vesting of unearned equity in the event of a merger or other change-in-control. The recommended best-practice policy states that boards should have discretion to permit full, partial or no accelerated vesting of equity awards not yet awarded, paid or vested.” What’s the big deal about that? In today’s NASPP blog I’ll explore whether this means the death of automatic vesting provisions in the stock plan for change in control situations.

A Popularity Tug of War

Institutional investors and their advisers haven’t been shy in labeling automatic vesting upon change in control (“CIC”) as a negative stock plan feature. ISS’s new Equity Plan Scorecard (as explained in the EPSC FAQs) puts this type of provision into the “could be negative and work against you” category (my loose liberty taken in interpreting here). In some cases, automatic CIC vesting could be considered egregious and result in an automatic “no” vote against a plan. And yet, according to the NASPP/Deloitte 2013 Stock Plan Design survey, the majority of companies who do allow for vesting acceleration upon a change of control have an automatic provision; far more than the number of companies who have incorporated board discretion into the determination about whether to accelerate vesting on all or some stock options and awards. With the Council of Institutional Investors taking a firm policy stance on the topic, a figurative tug-of-war seems to be more imminent – many stock plans have a feature providing for automatic acceleration upon CIC; the institutional investors are becoming stronger and more vocal in fighting the “automatic” aspect of these provisions. So who will win out? Does this mean that a new wave of stock plan amendments that will eliminate automatic vesting and implement more board discretion over these decisions? Time will tell, but it’s not inconceivable that next time your plan is up approval or amendment, this feature may need to be reconsidered.

Best Practice vs. Practice

If provisions that allow for automatic vesting upon a CIC event are not favorable, then what is? As described in the first part of this blog, a scenario where the company’s board has the ultimate say in whether or not vesting should accelerate appears to be the emerging preferred and best practice. It seems like this would be a win-win – the board would still retain ultimate decision making control, and shareholders would be reassured that automatic vesting is off the table. Given that many plans do currently have automatic vesting provisions, it seems there is some plan amendment work to be done. The timing and mechanics obviously are left to each company to determine based on their own internal factors. If, however, your company is in the process of drafting a new plan, or considering other amendments to the existing plan, the topic of change-in-control provisions may warrant some discussion with your advisers.


April 15, 2015

NASPP To Do List

Last Chance: Global Equity Incentives Survey!
Today is your last chance to participate in the NASPP’s 2015 edition of our Global Equity Incentives Survey (co-sponsored with PwC)!  Don’t miss out–issuers have to participate to have access to the full survey results.

NASPP To Do List
Here’s your NASPP To Do List for the week:

– Barbara


April 14, 2015

Taxation When Employment Status Has Changed

For today’s blog entry, I discuss how stock plan transactions are taxed when they occur after the award holder has changed employment status (either from employee to non-employee or vice versa).  This is a question that I am asked quite frequently; often enough that I’d like to have a handy blog entry that I can point to that explains the answer.

The basic rule here is that the treatment is tied to the services that were performed to earn the compensation paid under the award. If the vesting in the award is attributable to services performed as an employee, the income paid under it is subject to withholding and reportable on Form W-2.  Likewise, if vesting is attributable to services performed as a non-employee, the income is not subject to withholding and is reportable on Form 1099-MISC.

Where an award continues vesting after a change in status, the income recognized upon settlement (exercise of NQSOs or vest/payout of restricted stock/RSUs) is allocated based on the portion of the vesting period that elapsed prior to the change in status.

For example, say that an employee is granted an award of RSUs that vests in one year.  After nine months, the employee changes to consultant status.  The award is paid out at a value of $10,000 on the vest date.  Because the change in status occurred after three-fourths of the vesting period had elapsed, 75% of the income, or $7,500, is subject to tax withholding and is reportable on the employee’s Form W-2.  The remaining $2,500 of income is not subject to withholding and is reportable on Form 1099-MISC.

What if the award is fully vested at the time of the change in status?

In this case, the tax treatment doesn’t change; it is based on the award holder’s status when the award vested. For example, say an employee fully vests in a award and then later terminates and becomes a consultant.  Because the award fully vested while the individual was an employee, the award was earned entirely for services performed as an employee and all of the income realized upon settlement (exercise of NQSOs or vest/payout of restricted stock/RSUs) is subject to withholding and is reportable on Form W-2.

This is true no matter how long (days, months, years) elapse before the settlement.  Under Treas. Reg. §31.3401(a)-1(a)(5), payments for services performed while an employee are considered wages (and are subject to withholding, etc.) regardless of whether or not the employment relationship exists at the time the payments are made.

What is the precise formula used to allocate the income?

There isn’t a precise formula for this.  We asked Stephen Tackney, Deputy Associate Chief Counsel of the IRS, about this at the NASPP Conference a couple of years ago.  He thought that any reasonable method would be acceptable, provided the company applies it consistently.

The example I used above is straight-forward; awards with incremental vesting are trickier.  For example, say an employee is granted an NQSO that vests in three annual installments.  15 months later, the employee changes to consultant status.

The first vesting tranche is easy: that tranche fully vested while the individual was an employee, so when those shares are exercised, the entire gain is subject to withholding and reportable on Form W-2.

There’s some room for interpretation with respect to the second and third tranches, however.  One approach is to treat each tranche as a separate award (this is akin to the accelerated attribution method under ASC 718).  Under this approach, the second tranche is considered to vest over a 24-month period. The employee changed status 15 months into that 24-month period, so 62.5% (15 months divided by 24 months) of that tranche is attributable to services performed as an employee. If this tranche is exercised at a gain of $10,000, $6,250 is subject to withholding and reported on Form W-2. The remaining $3,750 is reported on Form 1099-MISC and is not subject to withholding.  The same process applies to the third tranche, except that this tranche vests over a 36-month period, so only 41.7% of this tranche is attributable to services performed as an employee.

This is probably the most conservative approach; it is used in other areas of the tax regulation (e.g., mobile employees) and is also used in the accounting literature applicable to stock compensation.  But it isn’t the only reasonable approach (just as there are other reasonable approaches when recording expense for awards under ASC 718) and it isn’t very practical for awards with monthly or quarterly vesting.  It might also be reasonable to view each tranche as starting to vest only after the prior tranche has finished vesting.  In this approach, each tranche in my example covers only 12 months of service.  Again, the first tranche would be fully attributable to service as an employee.  Only 25% of the second tranche would be attributable to services as an employee (three months divided by 12 months).  And the third tranche would be fully attributable to services performed as a consultant.

These are just two approaches, there might be other approaches that are reasonable as well.  Whatever approach you decide to use, be consistent about it (for both employees going to consultant status as well as consultants changing to employee status).

Stay tuned! Next week I’ll discuss some additional considerations and complexities relating to changes in employment status.

– Barbara

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April 14, 2015

NASPP Chapter Meetings

Here’s what’s happening at your local NASPP chapter this week:

Philadelphia: Elena Thomas and Lisa Klevence of Plan Management will present “Implementing Performance Awards without Losing Your Mind.” (Tuesday, April 14, 8:30 AM)

Wisconsin: Jessica Pancamo of BDO presents “Granting Global Equity: Best Practices from Start to Finish and Beyond.” (Tuesday, April 14, 11:45 AM)


April 9, 2015

These 3 Audits Can Prevent Headaches

In thinking back through some of my past blog entries, I notice several have focused on failures in internal controls. In recent months I’ve covered lapses in keeping tabs on plan limits and the SEC’s interest in late Section 16 filings, among others. As administrators, the concept of an audit is a daily process component. In theory pretty much everything that happens from a process standpoint is (or should be) audited. There is a lot of checking and balancing. I can’t possibly cover all of the audit spectrum in one blog, but for today I will cover 5 of them that, in my mind, can prevent many headaches down the road.

Audit, Defined

Audit: “a careful check or review of something” (Merriam-Webster).

I think many times the word “audit” signifies something big in our heads. Like when the auditor comes and performs an extensive or extended review of a process. For today’s purposes, let’s just assume that an audit is simply a careful review of something. It could be big or small, quick or more prolonged. That’s really it, though. All of the audits I’m going to suggest can be performed relatively quickly, with lots of bang for the time invested. A few minutes now can save hours of headaches later on. The headaches I’m talking about include disclosing control failures internally and publicly, increased shareholder scrutiny and litigation, unwinding grants, purchases or awards, and more.

3 Areas of Audit

1. Review Plan Limits. In my blog “Share Limit Lessons the Hard Way – Part II” (January 15, 2015), I covered some examples of control failures and the resulting repercussions in this area. Your stock plan could have several different limitations on shares or other provisions, often easily identified by the use of the words “minimum” or “maximum”. Common plan limits include the total number of shares issued under the plan, a cap on the quantity of shares that can be issued to an individual – over the life of the plan or within a specified time period (or both), a minimum required vesting period (for example, awards that must have a minimum of a one-year vesting period), and share ratios (fungible or flexible ratios). The easiest way to monitor these limits is to maintain a list of all the “limits” specified under the plan and review them regularly. Educate those involved in the grant process about share limits so that any potential for exceeding them can be headed off before the grant is made. This type of audit should be performed at least quarterly, with interim reviews performed when there is significant related activity, such as a large grant.

2. Compare Plan Activity to the Form S-8. This sounds straightforward, but I have seen this time and time again. The company files an S-8 to register shares to be issued from the plan, and then the balance registered is never compared to actual plan activity. It sometimes feels more like an item to be checked off a to-do list at plan inception, rather than an area of ongoing review. Problems can occur when the company ends up issuing more shares from the plan than are registered on the S-8. How does this happen? There are a number of possibilities – among them are adding new shares to the plan, and not counting the re-issuance of forfeited shares. To recap, the S-8 does not register the plan itself with the SEC, but is for the offer and sale of the securities under the plan. In tracking shares issued under the plan against the number of shares recorded on the S-8, there are a number of factors to consider – like how forfeitures of restricted stock (and subsequent re-grants of those shares) will impact the number of shares remaining for issuance. Subscribers to The Corporate Counsel may benefit from reviewing the article “Form S-8: Share Counting, Fee Calculations, and Other Tricks of the Trade.” It’s time to dust off the Form S-8 filings and review them against shares issued from the corresponding stock plans.

3. Monitor Section 16 Transactions. I’ve talked before about the SEC’s recent interest in Section 16 reporting violations (see “Section 16 Reporting: Low Hanging Fruit for SEC“, November 6, 2014). Because of the short time frame to disclose most Section 16 reportable transactions to the SEC, many companies have controls designed to monitor daily activity from the stock plans. However, common causes of reporting violations include out of box transactions and corrections that fail to be reported. This is an area of audit that will require some creativity to fully embrace. How do you proactively audit for things that are not in the company’s control, for example a situation where an officer ceases to be trustee of the family’s trust (releasing him from beneficial ownership of the shares)? Another opportunity for a “miss” in reporting is adding or removing executives and directors to/from the list of those obligated to comply with Section 16 reporting. This is an area where auditing may involve the contributions of many. It may take you away from your traditional view of an “audit”. In monitoring Section 16 activity, building relationships is an essential component. You’ll want to be proactive in building relationships with your compliance officer and other executives who may regularly interact with board members and can inquire about ongoing activity. You’ll want to build an alliance with the trusted advisors who assist your Section 16 reporting persons in managing their finances/portfolio/estate. The reporting person may forget to tell you about something, but it may be the professional advisor that tips you off to a change that warrants reporting. This doesn’t replace other forms of trying to monitor activity – like proactively inquiring to brokers and asking Section 16 officers/directors about activity. If you’ve had reporting failures in the past couple of years, it’s time to examine the controls to make sure you have enough of the right audit steps in place. Think outside of the box.

There are probably a hundred audits that can encompass stock plan activity and their related disclosure/compliance requirements. We have only tackled three in today’s blog. None of these are grossly time consuming and could work in your favor, heading off potentially messy situations down the road. If there’s one thing to remember, “audit” doesn’t have to mean an all encompassing days long event. It can be as simple as a quick inquiry, review, or analysis designed to stay ahead of the curve in managing your stock plans. Implement these (and more) audits, and you’ll thank yourself later!



April 8, 2015

NASPP To Do List

Deadline Extended: Global Equity Incentives Survey!
We’ve extended the deadline to participate in the NASPP’s 2015 edition of our Global Equity Incentives Survey (co-sponsored with PwC) until April 15!  Don’t miss out–issuers have to participate to have access to the full survey results. Register to participate today!

Andrea Best on Why Business Is Personal
Check out the latest Career Corner blog by Andrea Best of SOS, “A Case for Making Business Personal,” on why it’s not only okay but a good idea to be friendly with your professional colleagues.

NASPP To Do List
Here’s your NASPP To Do List for the week:

– Barbara


April 7, 2015

Final 162(m) Regs

It’s no April Fool’s joke—on March 31, the IRS and Treasury issued final regulations under Section 162(m). The final regs are largely the same as the proposed regs that were issued back in 2011 (don’t believe me—check out the redline I created); so much so that I considered just copying my blog entry on the proposed regs and changing the word “proposed” to “final” throughout.  But I’m not the sort of person that takes short-cuts like that, so I’ve written a whole new blog for you.

For more information on the final regs, check on the NASPP alert, which includes several law-firm memos.

The IRS Says “We Told You So”

The final regulations implement the clarification in the proposed regs that, for options and SARs to be exempt from the deduction limit under Section 162(m), the plan must specify a limit on the maximum number of shares that can be granted to an individual employee over a specified time period.  It is not sufficient for the plan to merely limit the aggregate number of shares that can be granted, even though this creates a de facto per-person limit; the plan must separately state a per person limit (although the separately stated per-person limit could be equal to the aggregate number of shares that can be issued under the plan). One small change in the final regs was to clarify that the limit doesn’t have to be specific to options/SARs; a limit on all types of awards to individual employees is sufficient.

When the proposed regs came out, I was surprised that the IRS felt the need to issue regs clarifying this.  This had always been my understanding of Section 162(m) and, as far as I know, the understanding of most, if not all, tax practitioners.  In his sessions over the years at the NASPP Conference, IRS representative Stephen Tackney has said that everyone always agrees on the rules until some company gets dinged on audit for not complying with them—then all of a sudden the rules aren’t so clear. I expect that a situation like this drove the need for the clarification.

In the preamble to the final regs, the IRS is very clear that this is merely a “clarification” and that companies should have been doing this all along, even going so far as to quote from the preamble to the 1993 regs.  Given that the IRS feels like this was clear all the way back in 1993, the effective date for this portion of the final regs is retroactive to June 24, 2011, when the proposed regs were issued (and I guess maybe we are lucky they didn’t make it effective as of 1993). Hopefully, you took the proposed regs to heart and made sure all your option/SAR plans include a per-person limit.  If you didn’t, it looks like any options/SARs you’ve granted since then may not be fully deductible under Section 162(m).

Why Doesn’t the IRS Like RSUs?

Newly public companies enjoy the benefit of a transitional period before they have to fully comply with Section 162(m). The definition of this period is one of the most ridiculously complex things I’ve ever read and it’s not the point of the new regs, so I’m not going to try to explain it here. Suffice it to say that it works out to be more or less three years for most companies.

During the transitional period, awards granted under plans that were implemented prior to the IPO are not subject to the deduction limit. Even better, the deduction limit doesn’t apply to options, SARs, and restricted stock granted under those plans during this period, even if the awards are settled after the period has elapsed. It’s essentially a free pass for options, SARs, and restricted stock granted during the transition period. The proposed regs and the final regs clarify that this free pass doesn’t apply to RSUs. For RSUs to be exempt from the deduction limit, they must be settled during the transition period.  This provides a fairly strong incentive for newly public companies to grant restricted stock, rather than RSUs, to executives that are likely to be covered by Section 162(m).

I am surprised by this.  I thought that some very reasonable arguments had been made for treating RSUs the same as options, SARs, and restricted stock and that the IRS might be willing to reverse the position taken in the proposed regs. (In fact, private letter rulings had sometimes taken the reverse position). I think the IRS felt that because RSUs are essentially a form of non-qualified deferred comp, providing a broad exemption for them might lead to abuse and practices that are beyond the intent of the exemption.

This portion of the regs is effective for RSUs granted after April 1, 2015.

– Barbara

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April 2, 2015

Insider Trading Isn’t Illegal?

I think it’s safe to say that if you work in this industry, you’re familiar with the concept of insider trading. What do we know? You can’t trade in a company’s stock based on material non-public information. If you do, the Securities and Exchange Commission (“SEC”) could hunt you down and make your life very, very miserable. Isn’t that what time and experience have taught us? In the past, I’ve blogged about the SEC’s renewed and aggressive interest in pursuing a variety of insider trading violations (see Husbands and Wives Insider Trading and “There’s a Reason They Call it “Insider” Trading). With more sophisticated technology and monitoring mechanisms, even the smallest trades are not below the line of scrutiny, and it’s an area where I’ve been advocating the use of caution for a while now. However, what was left unsaid in those many recounts of insider trading crackdowns was the fact that although there have been prosecutions and penalties and repercussions for trading based on material non-public information, there isn’t actually a federal law that specifically makes insider trading illegal. Now, that tide may be changing, with multiple bills in pending in Congress that intend to create a federal statute to address this legislative hole. In today’s blog I’ll catch you up on what’s happening on that front.

How Can That Be?

I already know what you are thinking: “Huh? Insider trading is illegal.” I mean, isn’t that why we’ve seen dozens of successful prosecutions in the last few years? You know what I’m talking about – and we’ve seen it all. CEOs, hedge fund managers, employees who accidentally passed on inside information to their wives, friends having brunch together and sharing small talk about their jobs. I think the variety of circumstances is broad, with one commonality: the SEC has been successful in working with the Justice Department to bring charges, obtain convictions and levy penalties. Jail time has been a very real outcome in some of these cases. So how could this all happen if insider trading is NOT illegal?  Well, technically it’s not. And, although the SEC has been successful in pursuing these cases, they have had to use loopholes to do so – relying on general antitrust laws and decades of case law (and, I’m not a lawyer, but I’m told that case law is subject to interpretation by individual judges, so the application of that could vary widely). The bottom line is there isn’t a statute that specifically addresses insider trading, which leads to potential ambiguity and inconsistencies in the courts.

Why the Interest Now?

We’ve established that there are no clear federal insider trading laws on the books, but what’s the sudden interest in creating one? The initial catalyst was a landmark ruling (December 2014) by the Second U.S. Circuit Court of Appeals (U.S. v. Newman) that overturned two “key” insider trading convictions, dealing a blow to the Justice Department and the SEC. At the time, the Wall Street Journal summarized the situation as follows: “…a federal appeals court overturned two insider-trading convictions and ruled it isn’t always illegal to buy or sell stocks using inside information.

The ruling raised the bar for prosecutors on a crime that is already hard to prove, and it will likely limit the types of cases the government can pursue.

Specifically, the three-judge panel of the Second U.S. Circuit Court of Appeals said prosecutors must prove traders knew that the person who provided an inside tip gained some sort of tangible reward for doing so. The judges also said it may be legal to trade on inside information, even if it gives an investor an unfair advantage in the markets, as long as the tipper didn’t commit an illegal breach of his or her duty.”

What’s the Fallout?

The Newman decision has created a still ongoing fallout, making it more challenging for the SEC and Justice Department to pursue insider trading cases. As a result, some pending cases have been dropped, others who were successfully convicted are now seeking review of their cases, and Congress is taking action to statutorily define insider trading and also to reverse the requirement under the appellate decision that:

  • “the tippee know both that the tipper breached a duty of confidentiality and

  • the tipper received a personal benefit of “some consequence.”

What’s Happening in Congress?

There are currently three bills pending in Congress that seek to define insider trading. The National Law Review describes them as follows:

“Two bills introduced by Democrats have been pending without bipartisan support and have stalled.  The broadest of these is the Stop Illegal Insider Trading Act, which was introduced by Sen. Jack Reed (D – RI) and Sen. Robert Menendez (D – NJ). The Stop Illegal Insider Trading Act would make it illegal to trade on “material information” that the person “knows or has reason to know” is not publicly available – excluding information a person developed from publicly available sources.

The second bill is the Ban Insider Trading Act of 2015, which was introduced by Rep. Stephen Lynch (D – MA), and would redefine “material” nonpublic information as information that would likely affect the stock’s price if it were made public.

Most recently, Rep. Jim Himes (D – CT) and Rep. Steven Woman (R – AK), introduced the first bill with bipartisan support, which would ban trading based on material, nonpublic information that the person knew or recklessly disregarded was wrongfully obtained.”

What’s Next?

It’s not clear what the outcome of any of these efforts will be, but what we do know is that the fallout from the Newman decision has caused a ruckus, and there is more pressure than ever to find a consistent way for the courts to define insider trading. It’s quite possible that any new legislation in this area will trigger a need to revamp the insider trading policy, educate employees and possibly adjust some practices and procedures. We’ll keep you informed on any new developments in this area.



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March 31, 2015

Pics and a Poll

For this week’s blog entry, I have pictures from the 11th Annual CEP and Silicon Valley NASPP Symposium and a short poll about what you think should be changed about stock compensation.


Mike MaloneTech writer and SCU adjunct professor Mike Malone presented the opening keynote. Mike ended with an 11-point program on things that it would be nice to change about stock compensation, including some controversial ideas. What do you think? I’ve included my (somewhat loose) interpretation of Mike’s ideas in a poll below; tell me which ones you’d like to see happen. Click here to participate if you can’t see the poll below.

Afternoon KeynoteChristine Zwerling of SOS, Josh McGinn of AST, and Connie Rawson of presented the much less controversial afternoon plenary on “How to Plan Nicely with Others.” One bit of advice from the panel: “Never underestimate the power of a well-timed donut.”

Becky and SusanA couple of icons in the stock compensation world, Becky Broussard of Broussard & Associates and Susan Garvin of GoPro, catch up before attending an afternoon break-out session.

E*TRADE BoothJames Tozer and Zach Crumpton of E*TRADE chat with Debbie Tsoi-a-Sue of LendingClub in the E*TRADE booth.

Paz, Lauren, and MarianneMore familiar faces! Paz Marie Dizon of Tesla, Lauren Downes of FitBit, and Marianne Friebel of Dolby, all long-time members of the NASPP and CEPs, network at the closing reception.

– Barbara