Every successful business prioritizes the retention of its most valuable employees. Many such businesses show their willingness to retain top talent through the use of one or another of a variety of employee incentive plans. Whether it’s the stock option plan typically offered to corporate executives, or the annual cash bonus linked to individual performance that is commonly found in sales-oriented industries, many of these plans involve ceding equity interests or relying on complicated performance metrics that make them cumbersome, expensive, or impracticable.
One type of incentive plan that alleviates these concerns is the Phantom Stock Plan (or, in the case of an LLC or other non-corporate entity, the Phantom Unit Plan). Under such a plan, an employee becomes incentivized to contribute to the growth and long-term profitability of the company in hopes of increasing the value of his or her shares. Phantom Stock Plans are customizable to the needs of the company, require minimal paperwork, are not subject to the same reporting and disclosure requirements as plans involving a transfer of equity, and, if implemented correctly, may not result in tax consequences to either the employee or employer until payout later occurs.
A so-called “triggering event” under these plans is typically either the sale of the company, in which case phantom shares are bought out using proceeds from the sale, or an employee’s retirement from the company following a designated number of years of service. By limiting the triggering event to those scenarios, a plan stays within the requirements of § 409A of the Internal Revenue Code and avoids incurring the additional 20% income tax on nonqualified deferred compensation plans.
Compared to alternative incentive schemes, Phantom Stock Plans are low-cost and low-hassle. If a corporation already has regular valuation metrics in place to price its actual shares, its phantom shares can simply mirror that price without incurring any additional expenses or accruing capital gains along the way. Flexibility, ease, and cost effectiveness continue to make Phantom Stock Plans exceedingly viable employee incentive plans that companies and executives may want to consider.