Contractor Management 11 min

How to offer stock options to independent contractors

Written by Pedro Barros
Pedro Barros

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Hiring independent contractors is a great way to leverage the knowledge and experience of subject matter experts, all across the globe.

And to attract the best contractor talent and build good relationships with them, stock options are an excellent incentive.

In this article, we’ll explain how you can offer stock options to your contractors safely and compliantly — wherever they are in the world. We’ll also cover the different types of stock plans, and clarify the difference between offering stock options to employees and contractors.

So let’s dive right in.

Can I offer stock options to contractors?

The short answer is yes. Stock options are a premium incentive. Many contractors don’t expect they will have the opportunity to participate in a stock option program, which really helps set your company apart when it comes to attracting and incentivizing top talent.

However, you have to ensure that your offering is compliant with all the relevant regulations in both your and your contractor’s country. In some regions, for instance, your contractor may be eligible to receive non-qualifying stock options, but your contractors in other countries may not be.

The outline of the stock option agreement needs to be carefully worded, too. You should ensure that the plan enables your company to grant equity to non-employees, and also ensure that contractors are responsible for their tax compliance. For example, employment can’t be a condition of exercising the options, which is often the case in many stock option programs (such as employee stock ownership plans (ESOPs).

Finally, it’s crucial to ensure that you don’t create misclassification risk — which can result in fines, penalties, and other restrictions. In many countries, providing any kind of benefit to your contractors can potentially lead to misclassification, so it’s important to understand the risks and how to mitigate them. We’ll discuss this in more detail further in the article.

When issuing stock options to contractors, continued engagement doesn’t always have to be a mandatory condition for receiving and exercising them. But, as mentioned, it can make a big difference in what type of options your contractor is eligible for. Each country has their own laws and regulations in this regard, so it’s recommended to review each contractor’s status on a case-by-case basis. 

What’s the difference between employee and contractor stock options?

In general, employee stock option plans are more tax-friendly, especially when compared to the common types of options given to contractors. In the US, for example, some companies with 100% employee ownership don’t pay state or federal income taxes. Usually, contractor stock option programs are structured in a similar way to employee options. However, you can structure a contractor option agreement to be exercisable on, say, the successful completion of a project, as opposed to being time-based. 

Note that, in some cases, it may be more suitable — or even necessary — to convert your contractor into an employee. You can learn more about this in our detailed guide:

Two people signing a document at a table.

When should you convert a contractor to an employee?

Switching a contractor to employee status is an important decision. Discover the best time to convert a contractor to full-time work.

What are the benefits of offering stock options to contractors?

Before you start giving away part of your business, it’s worth understanding what’s in it for you. There are many reasons why a growing number of companies — especially fast-growing startups — are embracing stock options for contractors, such as the following: 

More capital

If you’re working on a shoestring budget, or bootstrapping your company with loans from friends, family, or savings, offering stock options is a great way to reduce your current capital requirements. It can also help improve your cash flow while still providing attractive packages for both your employees and your contractors. 

Increased contractor loyalty

One of the biggest plus points of hiring contractors is that it allows you to tap into a global talent pool and find the perfect person for your business. And once you’ve found them, you want to incentivise them and build stronger relationships — even if you don’t plan to hire them as an employee.

Offering stock options sends a clear signal to your contractor that you value their work and are willing to invest in their future. This, in turn, builds trust and generates long-term loyalty among your remote contractor workforce. 

An invested workforce

Recent research in China shows that participation in stock option programs leads to a more innovative environment which, in turn, can boost your company’s growth.

When your contractors know that they will benefit directly from your success — and share in your failures — they will be more invested and more determined to perform at a high standard.

A more equal and diverse workforce

By offering stock options to your team— no matter where they live in the world — you have an opportunity to make an impact on global wealth inequality, especially in retirement. It allows you to move away from mere good intentions and take meaningful actions to help otherwise marginalized workers build wealth. 

A stock option plan gives your contractor equity in your company regardless of their race, age, sexual orientation, ethnicity, or country of origin. And your business will benefit from a more diverse set of ideas, opinions, and backgrounds — which is proven to boost company performance. 

An incentive to attract key advisers and consultants

Early-stage businesses often operate at a distinct disadvantage — they can’t afford the kind of bespoke advice that could otherwise help them grow and scale. The kinds of fees charged by large consulting firms can be steep, causing many founders to make difficult financial choices or eliminate the option of advice altogether.

As subject matter experts, many contractors are well-placed to act as consultants. Stock options are an attractive way to entice them when you need guidance — and your budget is tight.

What type of stock option plans can you offer to contractors?

Stock option plans come in different flavors and not all of them may be suitable for your contractors. It’s worth taking a few minutes to understand the key differences between some of the most popular types of plans. 

Non-qualified stock options (NSOs)

If you are using an employer of record (EOR), NSOs allow your foreign contractors to legally receive equity in your business (in the same way your domestic contractors and employees do). NSOs are available to anyone providing services to your company, including advisers and contractors. 

Restricted stock units (RSUs)

An RSU is a conditional stock option that is awarded when certain events occur. A “single trigger” RSU has one condition (such as a predetermined performance milestone), while a “double trigger” RSU has a second condition, like an IPO. 

Note that RSUs can come with potential tax implications. In the US, for instance, taxation applies to the full market value of RSUs when they vest. If the contractor does not sell the RSUs as soon as they vest, there will be subsequent taxes on any capital gains, either under short-term capital gain rules (if held for less than a year) or long-term capital gain rules (if held for over a year).

RSUs can be complex, so it’s recommended to work with a global HR specialist to plan out your equity incentives.

Virtual stock options (VSOs)

VSOs are better defined as cash bonuses that are tied to the price of your stock. It’s a way for you to reward your contractors without actually granting equity in your company.

As they are tied to your company’s performance, VSOs are a great way to incentivize your contractors. However, because they’re paid in cash, they’re always subject to income taxation. The tax rate can vary depending on what country your contractors work in, with some countries considering VSOs to be straight income and others deeming it a fringe benefit. VSOs are especially common in European countries.

What are the key considerations when offering stock options to contractors?

As mentioned, there are a few key things to consider when offering stock options to contractors.

The first is to determine whether stock options make the most sense in the first place. For instance, it might be easier to provide a financial bonus instead. Make sure you review all possible options before you make a decision and move forward with it.

Next, you need to clarify whether you can offer options in your contractor’s country and, if so, what kind of stock option makes the most sense.

Finally, you need to ensure that you’re issuing stock options in a compliant way. The last thing you want to do is create a plan and then discover that it does not comply with the securities laws in your contractor’s country. While the securities industry is global, it is regulated most of the time at the national level, and each jurisdiction has different requirements for how securities are handled. For instance:

  • Some regulatory bodies (like the US Securities and Exchange Commission (SEC)), apply local requirements in all, or nearly all, circumstances

  • Some bodies exempt foreign financial intermediaries from certain requirements

  • Some bodies fully exempt foreign intermediaries from many (or all) local requirements

Potential issues when providing stock options to contractors

Unfortunately, there have also been cases where stock options have inadvertently become a problem for foreign contractors, resulting in issues like double taxation. The Organisation for Economic Co-operation and Development (OECD) lists some of the issues related to cross-border income tax, including:

  • Timing mismatch in taxing benefits

  • Distinguishing income from capital gains

  • Difficulty in determining which service or contract the stock option belongs to

  • Services being provided in more than one country

  • Taxes owed to multiple countries due to multiple residencies of the contractor

  • Compliance issues like tax withholding

  • Merger and acquisitions, or an IPO, disrupting the original stock option agreement

It’s essential for you and your contractors to obtain the right localized tax advice to ensure there are no unwelcome tax obligations. Remote’s local, on-the-ground contractor management specialists can help you better understand the implications of offering equity incentives to your contractors, and advise on the best type of plan.

How can Remote help?

Administering any kind of stock option plan can be confusing, but especially so when the recipients are globally-dispersed contractors. This is why it’s advisable to work with a global HR partner, like Remote.

Remote makes it easy to manage your contractors, wherever they are based. And through our tax, legal, payroll, and benefits experts, we can help you identify the best equity incentive plan for your contractors while keeping you compliant with the relevant tax and reporting requirements.

Specifically, we can help you:

  • Select the right equity incentive for your contractors

  • Determine the stock option plan most beneficial to your organization

  • Manage any tax reporting obligations

  • Comply with local labor laws

  • Meet any regulatory requirements for offering stock options to contractors

  • Create a culture that’s attractive to contractors with the skills you need to grow and scale your business   

Offering a stock option plan to your global contractors

Developing a solid stock option plan for your contractors requires knowledge of securities laws, taxation regulations, and employment classifications — and each of these factors differ by country. The time you spend on addressing these problems can take you and your team away from the other areas of your day-to-day operations, and distract you from what you really want to be doing: growing your business.  

On the flipside, keeping your top contractor talent happy and motivated is a competitive advantage. Giving them equity in your business shows a high level of trust, and is a massive perk not often available to contractors. To see how you can make it all work — and reap all the benefits — schedule a free consultation with one of our friendly experts today.

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