Equity 101

Key takeaways

  • Transfer restrictions do not typically apply to exercising stock options.

  • Some private companies have transfer restrictions, which can limit who owns their stock.

  • These restrictions can prevent some employees who want to sell their shares on a private market from liquidating before an IPO. 


Know your equity

When you accept a job with an employee equity package, you may have a valuable investment on your hands. That’s why you take the risk of going to a startup, right?

However, there may be rules surrounding your future shares that make this part of your compensation package a little more complex than it seems at first glance.

If a company has transfer restrictions in place, employees could be limited on when they can sell their shares, which could be a drawback if you think you’d want to sell your shares on a secondary market before an IPO or other liquidity event.

When you’re evaluating the fairness of your equity offer, you’ll want to ask about any potential transfer restrictions — those won’t affect your ability to exercise your stock options, but they could affect your ability to sell them down the road before an IPO.

 To be sure, not every company has restrictions, but we believe that part of equity planning is eliminating any surprises down the road.

👉 How do you know your equity offer is fair? Compare it against similar-sized companies with our Equity Fairness Calculator. 

What is a transfer restriction?

A stock transfer restriction controls the transfer of a company’s stock. Privately held corporations can sometimes use transfer restrictions to control who is allowed to own company stock by limiting when an employee can sell their shares. 

On one hand, it can keep the cap table under control — the company knows who owns all the shares, and, in that way, transfer restrictions can help protect the interests of privately held corporations. However, these restrictions could negatively impact individual stockholders and/or investors by limiting the ways they can get value from those shares.

Where can you see if you have transfer restrictions?

There are a few ways to understand if or what any transfer restrictions are for your equity grant. 

First, you can ask when you are offered your equity grant. The HR department or legal department can likely describe the terms of your grant to you, including any restrictions. 

Next, you can review the actual terms of any restrictions in your Employee Stock Option Plan, which should be attached to your stock option grant.

Lastly, consult an outside attorney or equity specialist if you have questions about if your potential shares can be sold before they reach the public market.

Why transfer restrictions exist

There are a few different reasons that companies choose to have transfer restrictions. To start, key stakeholders in the company may want to limit who can become their partners. If a company is family-owned or wants to have a tight-knit leadership team that shares specific goals or values, a transfer restriction might appeal to them, especially if they don’t want their competitors getting their hands on any of their company stock.

Venture capital and private equity funds that invest in companies can also use these restrictions as a way of retaining the company’s most valuable employees or executives. This is because restrictions on transfer tend to be paired with vesting to incentivize key employees to continue working at the company and contribute to its success through an IPO or other liquidity event.

Transfer restrictions can prevent employees from selling their stock after it has vested on a secondary market but before a liquidity event occurs. As secondary markets grow in popularity, transfer restrictions may become more common.

👉 Watch a recent Vested event “Sell or Hold Your Pre-IPO Shares?” on how to evaluate the potential of selling pre-IPO shares.

Exercising options when you have transfer restrictions

The good news is that in most cases transfer restrictions won’t affect your ability to exercise your stock options. 

When transfer restrictions no longer apply

At the time of an IPO (or an acquisition), any transfer restrictions should also be lifted by your company. 

👉How do transfer restrictions work with option funding? Here’s how Vested works.

This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for investment, tax, legal, accounting, or other professional advice. Vested does not provide investment, tax, legal, accounting, or other professional advice. You should consult your own investment, tax, legal, accounting, or other professional advisors before engaging in any transaction or equity decision.


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