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If you’re starting a company, your equity is everything. It’s your reward for taking the risk, and it’s what investors, employees, and acquirers will all negotiate around. Yet many founders don’t fully understand how their ownership actually works, when it vests, or why it matters how it’s structured.
In this article, we’ll answer some of the most common questions founders ask about equity:
- How many shares should I issue when incorporating my company?
- How should equity be split between founders?
- What’s a vesting schedule and why do investors care?
- Should I issue stock directly or use options?
- How does all this affect my tax treatment (including QSBS eligibility)?
Let’s break it down.
How Many Shares Should I Issue?
A typical early-stage company authorizes 10,000,000 common shares at incorporation. That number sounds big, but it’s mostly for flexibility. What matters is how you divide it:
- Founders: usually 80–90% combined
- Employee Stock Option Pool (ESOP): 10–20%
- Investors: the rest (added later)
For example, two co-founders might each get 4.5 million shares, with 1 million reserved for future hires. But equal splits aren’t required. If one founder brings more capital, experience, or time commitment, it’s reasonable for them to take a larger portion.
There is no science to spitting the cap table between founders. Ultimately it comes down to what each party believes is fair.
Pro tip: Initial equity numbers can be changed - so don't treat the initial negotiation over equity as the end-all-be-all. Early stage founder equity is an ongoing negotiation. If one team member contributes a lot more than they were anticipated to, they should be rewarded accordingly.
Why You Need a Founder Shareholder Agreement (FSA)
Once you’ve decided who gets what, you need to formalize it through a Founder Shareholder Agreement (FSA).
An FSA typically:
- Defines each founder’s roles and responsibilities
- Sets vesting schedules (more below)
- Assigns intellectual property to the company
- Includes non-compete or non-solicitation clauses
- Prevents unwanted transfers through a Right of First Refusal (ROFR)
It’s also smart to issue share certificates (digital or physical) and keep your cap table updated at all times. Investors will always ask for it.
What Is a Vesting Schedule (and Why It Matters)
Vesting ensures that founders “earn” their shares over time, usually over three to four years, with a one-year cliff.
For example:
If Jeff is issued 3,000,000 shares on January 1, 2025, with a four-year monthly vesting schedule and a one-year cliff, then:
- Nothing vests in the first year (the cliff).
- On January 1, 2026, he gets 25% (750,000 shares).
- The rest vests monthly until January 1, 2029.
If Jeff leaves before the cliff, he walks away with nothing.
This protects everyone - the company, the co-founders, and future investors - by ensuring that ownership stays with people actively building the business.
I often hear from entrepreneurs that vesting is not necessary for them or their co-founders, since everyone is committed to seeing the project through.
The vesting plan is not about commitment. It's about planning for the worst. If a co-founder gets hit by a bus the day after shares are issued, they shouldn't be entitled to 20% of the company's equity (in fact, this can be fatal to a startup).
Vesting agreements are, frankly non-negotiatble.
Insight: even if you're not sold on vesting agreements, most venture capital firms will require founder vesting before investing. If you haven’t implemented one, expect it to be added during due diligence.
The 83(b) Election: An Essential Filing for Founders
When you receive shares that are subject to vesting, the IRS doesn’t treat you as owning them outright yet. Instead, you’re seen as gradually earning those shares over time. And that means you could end up paying ordinary income tax on each vesting date, based on how much your company’s value has increased.
Example
Suppose you receive 1,000,000 founder shares at $0.0001 each, vesting over four years. The total purchase price is only $400.
In year 2, let's say the shares have appreciated to a fair market value of $1 per share. That year, 25% of your shares vest.
The IRS would therefore tax you on the $250,000 gain, resulting you having paying over a hundred thousand dollars in taxes on highly illiquid shares.
That obviously sucks, so what how do you avoid this?
What the 83(b) Election Does
By filing an 83(b) election within 30 days of your share grant, you tell the IRS:
“I want to be taxed on the value of my shares today, not as they vest.”
If your company is brand-new and the shares are issued at a nominal value (e.g., $0.0001 per share), the taxable amount is often close to zero.
From then on, any future appreciation in value is taxed at the capital-gains rate instead of ordinary income.
Stock Options vs. Direct Share Issuance
Stock options (“Options”) are another form of equity compensation given to founders or company employees.
Options differ from shares in a few respects. Firstly, they are issued at a ‘strike price’, set by a formal valuation conducted to ascertain the fair market value of the Options.
Secondly, Options are not equity in the company, per se, but rather the right (not obligation) to acquire equity in the company. As stated before, to acquire this right you have to exercise your Options, paying the company the strike price.
A common founder question is:
“Should I just issue shares directly, or use stock options?”
In general use stocks for founder issuance (when the company has no value). Use options later on, when the company valuation has gone up.
Why Use Options Later On?
There are several reasons options should be used later on. But the main reason is taxation.
In the initial issuance to founders, the shares aren't worth anything (most shares are issued at a par value of $0.00001). So the IRS can't get the hands on anything.
But once the company has grown, issuing shares in the company will immediately trigger a taxable benefit, since those shares are likely worth a significant chunk of change. The taxable benefit would be equivalent to the fair market value of the shares being issued, which can be a lot of money, if the valuation is rising rapidly.
To reward founders and key employees down the line, options are preferred to direct shares. With options, you don’t trigger tax until you exercise.
However, it is worth noting that with options, you will likely not be eligible or the Qualified Small Business Stock (QSBS) exemption, one of the most powerful tools for entrepreneurs to build real wealth.
What Is QSBS and Why It Matters
If your company is a U.S. C-Corporation and meets certain requirements under Section 1202 of the Internal Revenue Code, you may be eligible for QSBS treatment, one of the most powerful tax breaks for founders.
QSBS allows you to exclude up to 100% of capital gains (up to $10 million) when you sell your shares, as long as:
- The shares were issued directly by the company (not via option exercise),
- You’ve held them for five years or more, and
- The company’s assets and business qualify under the statute.
This means that founders who receive actual stock (rather than options) early on often enjoy a far more favorable tax outcome upon exit.
Used correctly, QSBS can save you millions in tax savings - but you'll have to make sure your paperwork backs it up.
Need Help Structuring Your Founder Equity?
At Apex Corporate Law, we help founders set up share structures, stock option plans, and equity agreements that protect ownership and optimize for future growth, including QSBS planning and cross-border compliance.
We hope this resource proves helpful as you navigate the world of early-stage companies and, whether or not you are a founder, better understand how the accumulation of your equity works. If anything is unclear, Apex Corporate Law is happy to meet with you and your team to discuss any of the mentioned topics further. For more information, feel free to reach out here and we will get back to you promptly.
