How does Rule 701 help distribute employee stock?

How does Rule 701 help distribute employee stock?

What is the Rule 701?

The Securities and Exchange Commission (SEC) established Rule 701 to allow corporations to issue stock options without the time and expense of registering the shares under the Securities Act. Rule 701 applies only to private companies.

  • $10,000,000 (calculated by multiplying the option exercise price by the number of options granted in the case of options).
  • 15% of the issuer’s total assets as of the most recent annual balance sheet date.
  • Or 15% of the outstanding amount of the class of securities being offered and sold is dependent on the rule as of the most recent annual balance sheet date.

Why Employees Need to Understand how it works?

So, what does all of this mean if you work for a private company and have stock options? If your company distributes more than $10 million in stock to employees in a 12-month period, they must provide the Rule 701 disclosures specified above to each option holder seeking to exercise their options. Whether you are a fan of the firm or not, it is worthwhile to obtain this information if it is available, as it will help you decide whether or not to exercise your stock options.

How employees may get benefits from owning it?

By learning and understanding how Rule 701 works, employees would know when they should exercise their rights to the stocks they own. This may be a good thing for an employee in a case where he is in need of an emergency for cash. Rule 701 allows the employee to sell his/her stocks in exchange for equity.

Why Company need to be aware of how it works?

As startups remain private for longer periods of time, and in cases where a private firm is rapidly expanding, the Rule 701 reporting requirements must be closely observed. Officers and directors of venture-backed companies must be aware of the Rule 701 thresholds or face problems with the SEC. For example, in March 2018, the SEC fined Credit Karma $160,000 for failing to comply with Rule 701.

What if the Company made a Mistake?

A business owner may not have realized that they were subject to securities laws as a private firm. Because new firms are seeking more financing and waiting longer to go public these days, many are subject to Rule 701. If the business grants equity without a legitimate exemption, whether by mistake or on purpose and is found to be in breach of securities law, the repercussions can be severe.

Recent changes in Rule 701

The Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018 required the SEC to modify Rule 701(e) to raise the aggregate securities sales threshold from $5M to $10M during a 12-month period. In essence, private corporations can now offer up to $10 million in securities to employees without making detailed disclosures.

Need Assistance?

For any assistance and queries on how Rule 701 would work and regulate, reach out to Eqvista! We have an expert team that can help you with handling all your business needs, including valuations, filings, and cap table management.



Get the Medium app

A button that says 'Download on the App Store', and if clicked it will lead you to the iOS App store
A button that says 'Get it on, Google Play', and if clicked it will lead you to the Google Play store