Equity compensation is a powerful way to attract and retain talent while giving businesses a competitive edge. By giving employees an actual stake in the business, companies can build stronger teams without relying on
salaries, cash bonuses, and expensive perks alone.
From tax considerations to educating employees, running an equity compensation requires careful planning. Here’s how businesses can successfully implement it.
What is equity compensation?
Equity compensation is a non-cash benefit that gives employees a stake in the company on top of a
regular paycheck. In most cases, employees buy their stock at a lower price than normal, offering them financial benefits if and when they decide to sell. This looks slightly different if the company is public or private.
Equity compensation in public companies typically refers to stock options, restricted stock units (RSUs), or employee stock purchase plans (ESPPs), which employees can trade on the stock market later. Equity in private companies often includes stock options or restricted stock, but since the company’s shares are not publicly traded, employees may have to wait for an acquisition, IPO, or secondary sale to convert their equity into cash.
There are several different ways to structure equity compensation. Some workplaces offer company stock options that let employees buy shares at a set price, and others create an employee stock purchase plan where they can buy stock at a discount. Some options are also time-based or performance-based.
How does equity compensation work?
Equity compensation provides employees with the opportunity to share in the company’s success, aligning their financial potential with business performance.
Here's how some of the key parts work:
Vesting
Equity compensation typically follows a vesting schedule, which determines when employees gain ownership of their shares or can exercise their stock options.
A typical vesting schedule might span four years, with 25% of shares vesting each year. Some companies also use a cliff, which means employees need to stay for a certain period, like one year, before anything vests.
Valuation and pricing
For public companies, the market determines stock prices, making it easy to assess the value of stock options or RSUs. However, private companies must rely on 409A valuations — independent appraisals used to determine the fair market value of common stock for equity grants. Keep in mind that these valuations add an administrative burden for the employer.
Exercise windows and ownership rights
Once stock options vest, employees usually have a set time period to exercise (buy) them. With RSUs, vested shares typically transfer to employees automatically once the requirements are met.
Benefits of equity compensation
Offering equity compensation brings many advantages to the table. Here's how supplementing
employees' pay with equity helps organizations:
Equity compensation makes compensation packages more competitive and attracts top talent by offering a share in future growth. This is especially valuable for startups and growing companies that need to conserve cash while remaining competitive in the job market. It’s enticing to prospective employees who see long-term potential in a company and want to contribute to its success.
Long-term growth
In many cases, equity incentivizes employees to work harder, contribute to company success, and reap the benefits. When employees experience rewards (higher equity compensation) after making effective decisions, they’re more likely to think like owners, focusing on long-term growth instead of just short-term. This leads to sustainable business success.
Retention
Equity compensation plans with vesting schedules encourage employees to stay longer. If their company stock options or other equity grows over time, leaving means abandoning their unvested shares. This retention reduces costly turnover and builds more stable, committed teams. Just keep in mind that this only applies to RSUs. Some companies also offer refresh grants — extra equity-based compensation that employees can access after their initial compensation vests — or additional stock options to help retain employees.
Types of equity compensation
Every business has unique needs when it comes to sharing ownership with employees. Here are the most common types of equity compensation, each with its own benefits, considerations, and use cases:
Stock options
Stock options give employees the right to buy shares at a set price, even if the stock value goes up later. This can work in one of two ways:
Incentive stock options (ISOs) offer employees potential tax benefits when they buy options and sell shares at a later date. With ISOs, employees might pay lower tax rates on gains if they hold shares long enough. However, employers can only offer these to employees (not contractors or board members), and there are specific rules about how and when employees can exercise them.
Non-qualified stock options (NSOs) are more flexible. Anyone who works at the company can receive them. NSOs don't come with the same potential tax advantages, so when exercised, they are added to the employee’s regular taxable income. This is why they have fewer restrictions and are simpler to manage. Many companies start here.
Restricted stock units (RSUs)
While stock options give employees the right to buy shares, RSUs give them shares directly once they meet certain requirements. The vesting schedule might be time-based (like four years) or tied to company milestones.
This type of stock-based compensation only vests when specific company goals are met, like revenue targets or growth milestones. The better the company does, the more equity the team earns. This type of equity compensation works well for motivating executives and team members to hit ambitious targets.
Employee stock purchase plans (ESPPs)
ESPPs let employees buy company stock at a discount through regular payroll deductions. Employees can buy stock for less than market value, usually up to 15%. This equity compensation option works well for bigger companies, especially public ones, because stocks have higher liquidity.
3 tips for implementing equity compensation
A successful equity compensation program takes thoughtful planning and maintenance. Here are three key practices to help programs succeed:
1. Match equity to company goals
Before offering stock options or other equity compensation, companies should first define their objectives. Whether your goal is to attract senior leaders, drive company-wide growth, or retain employees, different types of equity compensation serve various purposes. For example, performance shares might work well for executives, while an employee stock purchase plan could help build company-wide ownership and engagement.
Keep in mind that equity compensation may not be the right choice for every company. Those hiring short-term employees or working with few resources likely won’t reap the same benefits as larger companies hiring long-term, high-impact employees.
2. Educate employees
Employees may have limited experience with stock options or company equity. Create a clear and transparent communication plan to ensure employees understand how equity compensation works. Create simple guides about vesting schedules, exercise timelines, and potential tax implications. The better they understand their equity, the more they value it.
Equity management-specific software can track vesting schedules, handle tax paperwork, and give employees clear updates about their ownership. This prevents mistakes while giving teams easy access to information about their equity.
Empower teams with EarnIn
Equity compensation is a powerful tool to attract employees while helping them build long-term financial security. However, long-term rewards don't always address short-term financial needs. Employees still have to navigate everyday expenses, unexpected costs, and emergencies.
That’s where EarnIn comes in. As a financial wellness solution, EarnIn helps employees better manage their day-to-day financial needs through tools like on-demand pay. With Earned Wage Access, employees access their pay on the same day they work – up to $150 per day, with a maximum of $750 between paychecks – starting at $2.99 per transfer.
By pairing long-term incentives like equity with short-term financial wellness support from EarnIn, companies can offer a more holistic total rewards strategy—one that promotes employee well-being, increases retention, and drives performance. And with no cost to the business and no payroll or time and attendance integration required, EarnIn is a simple, seamless way to enhance your benefits offering.
Support employee financial well-being with
EarnIn.
Please note, the material collected in this post is for informational purposes only and is not intended to be relied upon as or construed as advice regarding any specific circumstances. Nor is it an endorsement of any organization or services.
EarnIn is a financial technology company, not a bank. Banking services are provided by our bank partners on certain products other than Cash Out.
A pay period is the time between your paychecks, such as weekly, biweekly, or monthly. EarnIn determines your daily and pay period limits (“Daily Max” and “Pay Period Max”) based on your income and financial risk factors as outlined in the
Cash Out Maxes section of our
Cash Out User Agreement. EarnIn reserves the right to adjust the Daily Max and Pay Period Max at its discretion. Your actual Daily Max will be displayed in your EarnIn account before each Cash Out.
EarnIn does not charge interest on Cash Outs or mandatory fees for standard transfers, which usually take 1–2 business days. For faster transfers, you can choose the Lightning Speed option and pay a fee to receive funds within 30 minutes. Lightning Speed may not be available at all times and/or to all customers. Restrictions and terms apply; see the
Lightning Speed Fee Table and
Cash Out User Agreement for details and eligibility requirements. Tips are optional and do not affect the quality or availability of services.
Lightning Speed is an optional service that allows you to expedite the transfer of funds for a fee. Depending on the product, the fee may be charged by EarnIn or its banking partner. Lightning Speed may not be available in all states and/or to all customers. Restrictions and terms apply. See the
Lightning Speed Fee Table for details.
