Financial Planning and Equity Compensation: 10 Steps to a More Productive Liquidity Event

Whether it comes about through an acquisition, merger or initial public offering, a liquidity event is an exciting time. As it approaches, it's a good idea to bring the focus back to your personal financial needs.

Some due diligence now can help you minimize stress, avoid missteps and potentially enjoy significant savings on your taxes. The action plan below outlines crucial steps as you prepare for your liquidity event.

1 Clarify your financial goals

At first glance, clarifying your goals sounds easy, but it's often challenging. If you believe a liquidity event is in sight but you're not sure when or for what amount, an effective approach is to begin by refining your smaller financial goals, then move on to address your larger ambitions.

Consider what goal you'd like to address first. Perhaps it's a home, your child's education or just a much-needed vacation. The act of jotting down your goals in order of importance will get the ball rolling and help you visualize the important decisions to be addressed in the near future.

As you solidify your plans, the elements that support your goals can also be clarified and addressed, such as your tax strategy. Significant tax-saving vehicles, qualified small business stock—or QSBS exclusions—must be properly documented and executed, so it's prudent to get an early start on this type of documentation.

2 Develop an equity compensation plan

Start by considering what type of equity compensation you have. Do you have stock options, restricted stocks, or RSUs, or a combination of both? Once you understand this portion of your compensation, gather your documents on the subject, then review and formulate your strategy with the help of your wealth advisor.

Critical items to discuss with your advisor include:

• The timeline for exercising your options
• The vesting schedule of your RSUs
• The expiration date for your options
• The status of your RSUs following a liquidity event

Most RSUs in private companies have a double trigger—two requirements—to vest. Discussing the mechanics of RSUs with your wealth advisor will help you develop the most effective strategy for your situation. Understanding the tax withholding of your RSUs can be critical. The risks, rewards and tax consequences of exercising your options are additional areas of discussion. Your tax advisor can help you determine the most beneficial time to make your stock purchase.

3 Anticipate a period of illiquidity

When a company has a liquidity event, funds may not be distributed immediately, and many people don't plan sufficiently for this critical time period. If the event is an IPO, you often must wait 6 months through the lockup to access your liquidity. If it's an M&A event, you may have portions locked up in escrow. It's wise to get pre-IPO financial planning tips to plan for these very real possibilities and have access to alternative funds during this phase of the process.

4 Establish a basic estate plan

If you haven't put an estate plan in place—such as a revocable trust, will, healthcare directive or financial power of attorney—now is an opportune time to do so. A basic estate plan is important for virtually all adults and is a critical component to develop before you begin more advanced strategies like gifting assets outside of your estate.

5 Consider any upcoming gifting goals

Gifting often becomes a significant life goal before and after liquidity events. There are numerous things to consider aside from the tax implications people most often think about. First consider the impact you'd like the gift to have, then work with an advisor to craft the right method to transfer the assets into a vehicle that can accomplish this. This means considering everything from philanthropy to asset protection, from educational planning to generational wealth planning and a variety of other goals. It's important to understand the differences in tax impact when gifting before a liquidity event to transferring assets after a liquidity event.

6 Document the details of your stock holdings

Whether you're a founder and hold shares, an employee who exercised options or an investor who purchased shares, now is the time to make sure all your financial paperwork is in order.

Here are key questions to consider as you work with your accountant:

• Do you have documentation of your share purchases?
• Did you pay taxes?
• Did you take an 83(b) election—and, most importantly, are those shares QSBS eligible?

7 Address any potential asset risks

To mitigate financial risks that arise prior to your liquidity event, be sure to address the following topics:

• Have I done an adequate risk assessment?
• Do I need to retitle assets or consider setting up an LLC?
• Do I have an umbrella policy in place, and is it up to date for my current needs?
• Do I have the right amount of life insurance?
• Are there any other risks on my balance sheet that should be examined?

Discussing these issues with your advisor can help you understand where you need to take action.

8 Prepare for a future home purchase

If you've postponed a home purchase because of lack of funds for the down payment, this may be a good time to take the first step. You can make the process go more smoothly by understanding your credit rating and mortgage qualifications, as well as the type of mortgage you'd like to use.

And don't forget to give some thought to move-in costs, as well as funding needed for furnishings and remodeling projects.

9 Organize your philanthropic game plan

A liquidity event often provides a good time to pursue your philanthropic goals and navigate the various vehicles that can help you meet them—such as direct giving, employing a donor-advised fund or even establishing a foundation. Talking to an experienced advisor can help you determine the proper timing for your charitable gifts. It may be most effective to make the gifts just prior to your liquidity event. A bit of guidance and planning can help you optimize the impact of your philanthropic efforts.

10 Assemble your advisory team

If you haven't done so already, begin to build your financial team to help you address these important needs. There are a few key members to include on your team: a wealth advisor to help with financial planning and investing, an accountant who understands your present and future needs and an attorney who can help you implement an estate plan that remains effective as your wealth grows.