Work for Equity represents a great opportunity for startups, especially those in need of skilled professional services but without much liquidity. If you also find yourself in this situation (but not only in this case), you would do well to read this guide, which explains in a simple but comprehensive way what Work for Equity is, how it works and what advantages and tax benefits it offers.
What is Work for Equity and why is it important
Work for Equity is a particular remuneration tool introduced in Italy by D.L. No. 179/2012 (better known as Growth Decree 2.0) for innovative startups and then extended by D.L. No. 3/2015 to innovative SMEs.
As already pointed out, it is the ideal solution for startups that need skilled professional services but lack the cash on hand to acquire them. It is so because it offers the possibility of remunerating consultants and external collaborators by rewarding the work they do through the allocation of shares or shares in the company, without the need to shell out money.
There is, then, another reason that makes Work for Equity so important and useful: it is a form of remuneration that enjoys significant tax benefits.
Work for Equity Contract
If you decide to use Work for Equity you have the option of regulating its terms and conditions by drafting a specific written agreement.
In this particular document you must specify the type of work or service and the valuation of the professionals’ contributions. Regarding the latter aspect, you should be aware that innovative startups and SMEs should prepare an appraisal report, which should be prepared by an expert (i.e., an accountant or auditor) appointed by the parties, for the purpose of economically valuing the work or services rendered through shares or participatory financial instruments.
In the Work for Equity agreement, therefore, all the details of the transaction must be regulated, especially if there are many beneficiaries. You must also identify the objectives to be achieved by outside professionals and put in black and white at what point the right to the allocation of equity instruments can accrue.
How Work for Equity works
Before clarifying the practical workings of Work for Equity, it is necessary to point out that explicit provision must be made in the bylaws of companies intending to apply it for the possibility of adopting such policies and issuing participatory financial instruments in exchange for the contribution of works and services.
Let us now see how Work for Equity works, starting with the activation procedure.
Activation Procedure
You may not know this, but the moment you decide to use Work for Equity, you have several modes available for you to choose from:
- transfer of units or shares to lenders, either for free or for consideration;
- allocation of shares or units with capital increase for free or for consideration;
- allocation of participatory financial instruments.
Who is eligible for Work for Equity
Having said that not all companies can have recourse to Work for Equity, it is now useful to also recall which entities can benefit from this particular form of remuneration: Work for Equity is aimed at professionals, business consultants, more generally, at all providers of works and services and, in part, in the form of “Incentive Plans” through stock options to employees and continuous collaborators. According to the guidance provided in Circular No. 16/E of 2014 of the Internal Revenue Service, the benefit should apply exclusively to contributions of works and services, including qualified professional ones, that represent high-level consultancy for the innovative startup, while excluding contributions of a generic type.
Benefits of Work for Equity for startups
If you are still undecided about whether or not to use Work for Equity, perhaps you should pay special attention to the next few lines, where the advantages this tool offers startups are listed.
You will not be surprised to learn that the main advantage is related to its lower cost, both financial (offering the possibility of paying consultants and collaborators without using money) and economic (in light of the already mentioned tax breaks).
In addition to this, Work for Equity offers another great advantage to startups: it allows them to benefit from greater commitment on the part of the workers, who, by becoming partners in the company, have every interest in making it grow, since at the same rate the value of the share they receive (or the shares allotted to them) would grow. Not surprisingly, as Jessica Livingston well explained,
“often the best startups are those where all the founders and early employees are willing to be paid in equity rather than salary. It shows that they really believe in what they are building.”
Professionals have some advantages as well: chief among them is the possibility of acquiring financial instruments and increasing participation in the company without having to count these financial instruments for tax purposes, when calculating their total income. The downside in this case, of course, is the partial sharing of business risk.
Practical example of Work for Equity
Having reached this point in the guide, it is useful to provide a practical example of Work for Equity so as to sweep away any doubts about how this particular tool works: a typical case of Work for Equity is that of a mentor who, for the management consulting services he provides to a startup, receives shares in the company itself in exchange.
Accounting and Tax Aspects of Work for Equity
We have spoken several times about tax benefits, and so it is only right to shed light on the IRS-related aspects of Work for Equity.
The assignment of shares, units or financial instruments under Work for Equity is tax-exempt and is not included in the calculation of the work provider’s taxable income. In addition, there are no limits on the subsequent disposal of such shares and financial instruments. In this regard, it is important for you to know that a transfer to the issuing startup itself does not result in the forfeiture of the relief scheme.
You should also be aware that any capital gains arising from a sale for consideration are subject to taxation in the hands of the selling party at the time the sale takes place.
One final clarification: if due, the application of VAT on the service remains, and therefore, in such cases, the person providing the service is required to issue a regular invoice.
Differences between Work for Equity and other financing instruments.
As we have repeatedly pointed out, Work for Equity allows you to acquire qualified professional services even if you do not have much cash on hand.
You must remember, however, that you have several ways to finance a startup. We mention just a few: they range from self-funding (or Bootstrapping) to the help of Business Angel (an entrepreneur who, out of philanthropism, self-interest or give back, puts some of his or her capital at the startup’s disposal) or Venture Capital (specialized companies willing to offer very large sums of money as well as their connections and networks even internationally), via the 3F method (which involves asking for help from family, friends and “fools,” that is, people ready to fall in love with a business idea to the point of funding it).
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