IRC 409A & SFAS 123R

Recent regulatory developments are having significant effect on public and private companies who grant stock based compensation awards to employees.  These are the Financial Accounting Standards Board’s pronouncement SFAS 123R Shared Base Payment and the Internal Revenue Code Section 409A.

Under IRC Section 409A, privately owned companies are now required to establish that stock options are not being issued below fair market value at the time granted. Potential tax liability, including interest and penalties, exists for both the company and the employee.

There are substantial penalties imposed on the participant in any nonqualified deferred compensation plan failing to comply with section 409A. These penalties require that the participant include all prior deferrals in gross income retroactive to the date of deferral, pay taxes, interest and penalties on the amount so included, and pay an additional 20% penalty on the amount included. As a result, employers and employees should be certain that their plans do not violate section 409A

However, tax is not the only consideration. An unreasonably high valuation limits the value of equity as an incentive to employees and others. Additionally, a poorly prepared or inadequately documented valuation report may not survive audit review, requiring significant legal and accounting costs to defend the valuation after the fact.

Statement of Financial Accounting Standards 123R has broadened the use of “fair-value” accounting in determining the expenses recognized due to non-cash compensation plans such as incentive options. Like IRC 409A, SFAS 123R requires that a fair value be determined of the underlying stock at the time of an option grant. In addition, it requires that the options themselves be valued and that the value be expensed over time.

Enterprise Appraisal Company’s understanding of closely held stock can become a critical component of companies' administration of stock options, warrants and other forms of equity based compensation. Our process is cost-effective and minimally invasive while being comprehensive and thorough. Our clients rely on Enterprise Appraisal Company to get the valuation right the first time and to ensure that the valuation survives potential rigorous scrutiny from auditors, tax authorities and others.

For private companies, we offer and integrate valuations of common shares that cover both IRC 409A and SFAS 123R compliance. In addition, we can provide full SFAS 123R analytic services to determine appropriate option valuation and expense recognition, including taxation and international accounting standards if necessary.

For public companies, we offer a full range of SFAS 123R analysis and project management services—from volatility analysis to multi-year restatements and implementation of new systems and procedures for compliance with SFAS 123R.