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Interim guidance on private company valuation methods for stock rights grants18/04/2006. Source: Nixon Peabody. Thomas J McCord
 Since the enactment of Section 409A of the Internal Revenue Code, non-public companies in the USA have struggled with how they should establish that the exercise price of a stock option or a stock appreciation right was determined reasonably to be fair market value, says Thomas J McCord of Nixon Peabody. He offers guidance on private company valuation methods for stock rights grants.
Section 409A was added as part of the American Jobs Creation Act of 2004, and comprehensively regulates plans of nonqualified deferred compensation. For a more detailed description of the scope of Section 409A, see our October 20, 2005 Benefits Alert.
Any stock option, stock appreciation right (SAR), or similar stock rights program subject to Section 409A faces stringent regulations that will make the program’s administration cumbersome. More importantly, violation of Section 409A’s technical rules will subject participants to substantial tax liabilities and penalties. Hence, designing a stock rights
program that avoids the grasp of Section 409A should be everyone’s principal objective. The escape route requires that the exercise price of an option or an SAR be not less than the fair market value of the company’s stock at the time of grant.
In proposed regulations and a follow-up notice, the IRS has provided some interim guidance concerning what non-public companies must do to demonstrate that the exercise price of a stock grant is not less than the fair market value of the stock at the date of grant.
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