Sharing the wealth with Sec. 83(i)

One of the goals of the Tax Cuts and Jobs Act was to lower the income tax burden on working people, and the enactment of Code Section 83(i) was a good step in this direction, according to Lynn Loden, managing director in charge of transaction services and tax advisory for Opportune LLP, and a former partner with Arthur Andersen and Deloitte.

“This provision allows working people to share in the fruits of their labors which generate growth in the equity value of the private company they work for,” he said, and it does it by allowing taxpayers to defer the recognition of income and payment of income tax on the receipt of private-company stock to either a cash monetization event — such as an IPO or cash buyout — or five years, whichever is earlier.

“The idea is to expand the wealth-sharing to the middle and lower-middle working class that work for private companies, and give them some of the things that senior executives in publicly traded companies get,” he added. “This opens up Section 83 to private entities. It’s not to be used by owners and top officers — it is for working-class people. Working people see top executives in public companies doing this, and they think it’s not fair that they’re not able to have something similar. What [TCJA co-architect Rep. Kevin] Brady was doing was to address the misallocation of wealth in U.S. capital — it expands Section 83 share-based compensation to a targeted group of middle-class folks who are not owners or senior executives.”

“This is a favorable development because the taxation of the receipt in this form of compensation has been historically challenging to measure and process through payroll systems,” he said. Besides being difficult to administer, he noted that it’s complex to explain to a working class that often doesn’t have access to sophisticated tax and legal advice.

Loden helped steer Opportune LLP to advise clients on the advantages of Section 83(i). “We thought, what is so complicated about this? A lot of private-company owners are entrepreneurs who are hardworking,” he said. “The vast majority are very benevolent and are beholden to the people who helped them grow their business. From my experience they would like to ‘share the wealth,’ but are a little suspect of ‘fancy finance.’”

House Ways and Means Committee chairman Kevin Brady, R-Texas
Representative Kevin Brady, a Republican from Texas, speaks during an interview in Washington, D.C., U.S., on Friday, Feb. 28, 2014. Photographer: Andrew Harrer/Bloomberg

“Some of these share-based programs are a little complex in that they are compensatory, so there has to be withholding,” he said. “That’s a little difficult. When you pay someone $1,000 a week, you can withhold with no problem, but when you give them non-cash property that’s taxable in the same amount, where do you withhold? That’s one of the complexities in current share-based compensation.”

In addition, the valuation of stock or stock rights in a private company presents a challenge when there are no measurable liquidity data points, Loden indicated.

Opprtune LLP is a consultancy born in 2005 that initially had a focus on the energy space, including upstream, midstream, downstream power and gas, commodities trading and oilfield services, according to Loden. “We do outsourced accounting for oil and gas wells, and a lot of work for private equity firms.”

Loden believes that the use of Code Section 83(i) increases the value of a company. “We deal with both public companies and private equity-held companies looking for an exit strategy. We propose this as a value-added proposition for them — to compensate the employees of a company that a private equity firm just purchased. We typically assist the buyer to help with due diligence, tax structure and reporting for book purposes. And we get into the operation — what to do now that you have bought it. We think that allowing workers to share in the equity of a company increases the value of a company because the happier the employees are, the more productive they are.”

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