Will special vesting rules apply in the case of death, disability, or attainment of specified normal retirement age? This can also help ensure employee retention, especially in times of internal volatility, such as an ownership change or a personal emergency. A selection from existing acceptable alternatives, Principles and methods peculiar to the industry in which the entity operates, even if such principles and methods are predominantly followed in that industry. A phantom stock program must meet the requirements set forth by the Internal Revenue Service (IRS) code 409(a). Just as with stock awards, the purpose of a phantom stock plan is to generate an ownership mentality and reward key employees for helping to grow the business value. Our book Equity Alternatives: Restricted Stock, Performance Awards, Phantom Stock, SARs, and More includes a detailed chapter on phantom stock and SARs. A foreign parent may wish to award phantom stock units to executive employees of a U.S. subsidiary to avoid the complications of selling stock on a foreign exchange. If SARs or phantom stock awards are settled in shares, however, their accounting is somewhat different. Adam received his master's in economics from The New School for Social Research and his Ph.D. from the University of Wisconsin-Madison in sociology. Similarly, if there is an explicit or implied reduction in compensation to get the phantom stock, there could be securities issues involved, most likely anti-fraud disclosure requirements. Phantom stock plans are considered "liability awards" for accounting purposes (assuming they will be settled in cash rather than stock). To ensure these tax results occur, companies should ensure that the terms of the phantom stock plan are in compliance with section 409A prior to the plan becoming effective. The two main types of phantom stock plans are: In an appreciation only phantom stock plan, the plan participant receives a cash payment equal to the difference between the companys stock price at redemption and the issuing price of the phantom stock. There are two main types ofphantom stock plans. Most companies follow the guidance offered under ASC 718-10-35-8 which reads as follows: The tables below illustrate these two approaches, referred to here as Separate Method and Entire Method. Each assumes a PSO plan with a 5-year vesting schedule equal of 20% per year. On redemption, in a phantom stock plan, the plan participant receives a cash payment. How will the phantom stock units be valued (i.e., based on a formula or an appraisal)? Each offering period of the ESPP lasts [ ]. Chapter 1:Stock-based compensation overview and scope. It is for your own use only - do not redistribute. %%EOF What percentage of the companys value should be dedicated or reserved for this plan? Should the phantom stock units pending payment continue to participate in the growth in value of the company? Phantom stock can help in getting an executive team to think and act like equity partners. Or it could promise to pay her an amount equal to the value of a fixed number of shares set at the time the promise is made. Parameters and Trading, With Examples, Employee Stock Options (ESOs): A Complete Guide, What Is a Pension? Select a section below and enter your search term, or to search all click It should be noted that the value of the phantom stock units fluctuates from year to year as the value of the company changes. The limit does not apply, however, to performance-based compensation. To learn why sharing value with those who drive growth is so critical to your pay strategy, download and read our report today! Yes, there is. A phantom stock plan is a contractual agreement wherein a company promises to make cash payments to employees upon the achievement of certain conditions. Although partnerships do not have common stock, as noted above, entities taxed as partnerships, including LLCs, can implement plans very similar to phantom stock plans. For example, once a triggering event has been identified, the company should consider whether the value should be determined on the exact date of the triggering event; or whether it makes more sense to look forward or back to the nearest quarter or year-end, depending on what financial information may be needed to calculate value. Investments by and distributions to owners during the period. and its subsidiary entities (collectively the "Company"). In a phantom stock plan, upon redemption of phantom stock, the plan participant receives cash compensation. Phantom equity does not have some of the drawbacks associated with providing actual equity. For example, legislative increases or decreases in corporate tax rates may result in companies having more or less cash flow, accordingly (with all else being equal). Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 718, Stock Compensation (formerly, FASB Statement 123R), requires generally that all equity awards granted to employees be accounted for at "fair value." This fair value is measured at grant for stock-settled awards, and at subsequent Such plans must conform to IRS Section 409A and be vetted by an attorney with plan details specified in writing. You can set the default content filter to expand search across territories. As with phantom stock, this is normally paid out in cash, but it could be paid in shares. 607 0 obj <>/Filter/FlateDecode/ID[<48C1A16090314945BC51EFB7EBB391C8><6C0F7AA95DE6A2458300B480FF3472C5>]/Index[594 23]/Info 593 0 R/Length 82/Prev 262895/Root 595 0 R/Size 617/Type/XRef/W[1 3 1]>>stream Phantom stock plans are not tax-qualified, so they are not subject to the same rules as ESOPs and 401(k) plans, provided they do not cover a broad group of employees. These include white papers, government data, original reporting, and interviews with industry experts. Does the phantom stock plan comply with section 409A? Figure FSP 1-1 depicts the reporting periods required by the SEC for financial statements of public companies. One of the great advantages of these plans is their flexibility. He is a Chartered Market Technician (CMT). This is the case even though the amounts are not subject to income tax until actually paid to the employee. 616 0 obj <>stream Income Type: Write cash payment for cash income over $200. Cash accumulated to pay for the benefit may be subject to an excess accumulated earnings tax (a tax on putting too much money in reserve and not using it for business). (Consider current and future positions). Lastly, GAAP accounting also permits C-corporations to book a deferred tax asset (DTA) for future distributions, helping offset the overall accrual. For more information, see Section 409A Fundamentals. As such, the sponsoring company must recognize the plan expense ratably over the vesting period. Consider removing one of your current favorites in order to to add a new one. Care must be taken to avoid giving out too much to early participants and not leaving enough for later employees. (If based only on the appreciation, this is commonly referred to as a stock appreciation right.) The companys stock option and stock appreciation right (SAR) plans will need to carefully define performance based pay in order to qualify phantom stock payments for the full tax deduction. A phantom stock plan constitutes a deferred compensation plan. Phantom stock payments are usually made at a fixed, predetermined date. For example, a company could exclude gain or loss attributable to operations or sales of certain divisions of the company. 1.1 Financial statement presentation and disclosure requirements. Investing for Teens: What They Should Know, Rolling Over Company Stock from a 401(k): When It Doesand Doesn'tMake Sense, Taxation on Non-Qualified Deferred Compensation Plans, Using Phantom Stock as an Organizational Benefit. In-depth guide on presentation and disclosure requirements under US GAAP, plus considerations under SEC regulations. Your go-to resource for timely and relevant accounting, auditing, reporting and business insights. In each year, the value is adjusted to reflect the additional pro-rata share of the award the employee has earned, plus or minus any adjustments to value arising from the rise of fall in share price. Besides his extensive derivative trading expertise, Adam is an expert in economics and behavioral finance. Company name must be at least two characters long. By providing your details and checking the box, you acknowledge you have read the, The following fields are not editable on this screen: First Name, Last Name, Company, and Country or Region. It can also be used selectively as a reward or a bonus to employees who meet certain criteria. For example, the company could grant the employee a 5% interest initially and increase the interest to 10% after the employee completes five years of service. The company is not a company - it is a nonprofit or government entity that nonetheless can create some kind of measurement that mimics equity growth that it would like to use as a basis to create an employee bonus. At that point, the value of the award, minus any consideration paid for it (there usually is none) is taxed as ordinary income to the employee and is deductible by the employer. Companies should address the following when formulating aspects of the written plan: Various equity compensation methods, including phantom stock units, can provide great incentive to the employees receiving them and the employer providing them by cultivating increased engagement that can boost company performance. The value of a phantom stock unit may be measured by the value of a full share of company stock, or it may be based just on the appreciation in value during a specified time frame. Additional legal documents and agreements, such as a shareholders agreement, may have to be amended or drafted, increasing complexity and legal fees. In March, the common share price of Company A is $70. IRC Section 162(m) limits the deduction a publicly traded company may take with respect to remuneration in excess of $1 million paid to its top officers. For example, assume the issuing price of the phantom stock is $10. Here are answers to nine frequently asked questions about phantom stock plans and what they could mean for your company. Whether granted up front or over a period of years, the phantom stock units may either be immediately vested or subject to any vesting schedule determined by the company. Stock option plans produce a more favorable fixed accounting result. The purpose of the Chaparral Energy Phantom Unit Plan (the "Plan") is to provide deferred compensation to certain key employees (the "Participants") of Chaparral Energy. If the issuing phantom stock price is $30, and the companys share price at redemption is $100, the cash payment per phantom stock would be capped at $50 $30 = $20. All other aspects of the plan would be the same. stream Learn more about how they work. Similar toemployee stock options(ESO), SARs are beneficial to the employee when company stock prices rise; the difference with SARs is that employees do not have to pay theexercise price, but receive the sum of the increase in stock or cash. increase in value of the shares subject to the option. However, unlike actual stock for which the increase in value on a disposition may be eligible for favorable capital gains tax rates, phantom stock unit payouts are taxable to the employee at ordinary income tax rates. Some organizations may use phantom stock as an incentive to upper management. A phantom stock plan, also called a shadow stock plan, is a type of deferred employee compensation plan where the type of shares issued to plan participants are phantom shares instead of company shares. Please seewww.pwc.com/structurefor further details. The plan must be properly vetted by an attorney, with all of the pertinent details specified in writing. A stock option gives an investor the right, but not the obligation, to buy or sell a stock at an agreed-upon price and date. Employee Stock Ownership Plan (ESOP): What It Is, How It Works, Advantages, What Are Stock Options? What behavior or performance levels is the company trying to incentivize? financial benefit or property as compensation for services, the value of the benefit or . Other adjustments that might be considered include subtractions for capital investments made by the shareholders during the course of the plan, additions for any dividends paid to shareholders during this period, and the amount of accrued deferred compensation attributable to the phantom stock units themselves. Large cash payments to employees, however, must be taxed as ordinary income rather than capital gains to the recipient and may disrupt the firm's cash flow in some cases. Stock appreciation rights (SARs) are a type of employee compensation linked to the company's stock price during a predetermined period. Should participants receive the base value of the phantom stock units, or only participate in growth over and above the base value? Other companies may have one or more of these plans but want to supplement them for certain employees with another kind of plan. EBPAQC Alert No. 3 0 obj This content is copyright protected. % During the installment payout period, should earnings be credited on the balance at a specified interest rate? The idea of phantom stock is to provide the benefit of stock appreciation without transferring actual stock to the employee. Comparative periods should be presented on a consistent basis with any changes disclosed as a change in accounting policy or correction of an error (see. We use cookies to personalize content and to provide you with an improved user experience. Unlike accounting for variable award stock options, where a charge is amortized only over a vesting period, with phantom stock and SARs, the charge builds up during the vesting period, then after vesting all additional stock price increases are taken as they occur. Companies should consider the possibility of such unexpected fluctuations in value, regardless of whether it relies on a third-party valuation. At the time the payment becomes taxable, the company is entitled to a deduction in a corresponding amount (subject to general limitations under section 162 with respect to the amount being reasonable and not excessive). By simulating stock ownership, without actually providing it, management ensures that equity does not become diluted for other shareholders. For both phantom stock and SARs, employees are taxed when the right to the benefit is exercised. %PDF-1.5 92-64 includes model provisions for a rabbi trust, including a statement that any . Other equity or allocation formulas could be used as well. There are also shareholder approval rules related to the deduction limitation under IRC 162 (m). All rights reserved. In other cases, valuation may be required periodically, such as annually, or on a specific future date. that do not have publicly traded shares. A phantom stock plan is a costly form of long-term incentive requiring a charge against the company's income statement. when the vesting is triggered by a performance event, such as a profit target. endstream endobj startxref This may restrict some of the flexibility of the plan design. Report any stock that you acquired as a separate lineentry, using the standard instructions for stock. Write cash payment for cash income over $200. The attributes of phantom stock units should be carefully considered to determine whether it is theright incentive planto meet a companys needs. x\oGn?s4"{}C(jli#\>xqWUP AGuu=]l}v;7N\}Y'?>-fzMig7ttb$DQE#MQvyU9^ivn].6OU#%F6E-FM!h~-hEC.auw8P5mM*DK_mo_^%FK^pv7D6Om]D4_^n7V,"vUsBc&S=.|n[1hzRb@QWBY"kFs4Efzr9BaV+ 3PU%i%l |Q{$kdx`Q=Tim?#ecbz)tQNO}lQw+KTgrA:tH{Q+U++; RVv6oP!NS^|O5!=J#($m#k?ppF.=r Typically, the valuation will follow an event that triggers phantom stock unit payouts so that the amount of such payouts can be determined. Determining which accounting policies are considered significant is a matter of management judgment. In this case, the company must estimate the expected amount earned based on progress towards the target. Phantom stock can also be changed at the leadership's discretion. Because they can be designed in so many ways, many decisions need to be made about such issues as who gets how much, vesting rules, liquidity concerns, restrictions on selling shares (when awards are settled in shares), eligibility, rights to interim distributions of earnings, and rights to participate in corporate governance (if any). Discover what makes RSM the first choice advisor to middle market leaders, globally. The company's leadership has considered other plans but found their rules too restrictive or implementation costs too high. Second, the equity of the company must be valued in a defensible, careful way. holder when an option is exercised, but rather the right to receive an award based on the value of the company . |$8:4; b ,` Q$;G3fU | 32023VngYv#T)WONF1pX20_RD m|aVikx:20@T1& O To receive more complimentary information about Phantom Stock from our expert advisors, please provide us with your contact information below. Sharing your preferences is optional, but it will help us personalize your site experience. In most cases, a valuation is required upon the employees termination, death, or disability. Will any funding mechanism be used to help the company meet fund its future obligations to pay the amount owed to recipients? A phantom stock plan could be a potential, uncapped liability for the issuing company due to the fact that the payment is tied to the share price at redemption. A company may wish that former employees do not own company stock after they separate from service. Please see www.pwc.com/structure for further details. Reporting Stock Acquired through a Phantom Stock Plan. Yarilet Perez is an experienced multimedia journalist and fact-checker with a Master of Science in Journalism. This chapter introduces the general concepts of financial statement presentation and disclosure that underlie the detailed guidance that is covered in the remaining chapters of this guide. Phantom Stock Plan. %PDF-1.6 % CFI is the official provider of the Capital Markets & Securities Analyst (CMSA) certification program, designed to transform anyone into a world-class financial analyst. It provides increased incentives as the value of the company increases. Unusual or innovative applications of GAAP. Finally, if the plan is intended to benefit more than key employees and defers some or all payment until after termination or retirement, it may be considered a de facto "ERISA plan." Equity Alternatives: Restricted Stock, Performance Awards, Phantom Stock, SARs, and More.