What is a 409A Valuation?
What is a 409A Valuation?
A 409A valuation is an independent appraisal of a private company's fair market value (FMV) of common stock, typically used for setting the exercise price of stock options granted to employees. It is named after Section 409A of the Internal Revenue Code (IRC), which governs non-qualified deferred compensation plans.
Why is a 409A Valuation Important?
- IRS Compliance – Ensures that stock options are granted at fair market value, avoiding severe tax penalties.
- Safe Harbor Protection – A qualified third-party valuation creates a presumption of reasonableness, shifting the burden of proof to the IRS if they challenge the valuation.
- Equity Compensation – Establishes a defensible strike price for stock options.
- Fundraising & M&A – Helps determine equity value for financing rounds or acquisitions.
Key Factors in a 409A Valuation
- Company’s Financials – Revenue, profits, and overall financial health.
- Market Conditions – Industry trends and comparable company valuations.
- Recent Transactions – Venture funding rounds or acquisitions.
- Capital Structure – Preferred vs. common stock, liquidation preferences.
- Discounts for Lack of Marketability (DLOM) – Since private company shares are illiquid, they are often valued lower than public company shares.
How Often is a 409A Required?
- Every 12 months (unless a material event, such as fundraising, occurs)
- Before issuing new stock options
If you’re issuing stock options for a PropTech startup, you’ll likely need a 409A valuation to ensure IRS compliance and proper option pricing.
