Sweat Equity: Better in Theory?
Sometimes when two entrepreneurs are not on the same financial footing, one contributes labor and services, instead of money, in exchange for equity. This contribution is commonly referred to as “sweat equity,” “stock for services,” or “equity compensation.” Sweat equity may seem like a good idea in theory, but in practice it could have significant tax and legal consequences that must be considered. For example, the IRS treats sweat equity as taxable income based on the value of the company’s assets. Sweat equity isn’t always a bad option though, especially for start-ups. But even when sweat equity is a good idea, any business must be cautious when setting a value, as this valuation becomes fixed and cannot be changed retroactively. Consult with an attorney to determine whether a sweat equity arrangement is right for your business. LegalAxxis provides consulting services for an affordable fee. Please contact the firm for a free consultation.