ASC 718, also known as Accounting Standards Codification (ASC) Topic 718, is the accounting standard that provides guidance on the accounting for stock-based compensation. Stock-based compensation refers to the practice of granting employees or directors of a company equity awards, such as stock options or restricted stock units (RSUs), as part of their compensation. This is not really generally a big deal for small startups, in that their board, investors and accounting firms do not require ASC 718 compliance at the early-stage!
This standard provides guidance on how to measure and recognize the expense associated with stock-based compensation, as well as how to disclose information about stock-based compensation in the financial statements for companies that are going fully GAAP, which not all startups are worrying about. The standard applies to all forms of stock-based compensation, including stock options, restricted stock, restricted stock units, and other equity-based awards. Read all about startup stock options here.
The Financial Accounting Standards Board (FASB) is the independent organization that establishes financial accounting and reporting standards for public and private companies, as well as non-profit organizations. FASB requires public companies to disclose detailed information about their stock-based compensation plans and the expenses recognized under those plans in their financials. This includes information about the number and types of awards granted, the fair value of the awards, and the vesting and expiration dates of the awards - and so, as you’d expect, the accounting for large public companies is a lot more onerous than for smaller technology startups.
Who set up ASC 718?
ASC 718 is part of the FASB Accounting Standards Codification, which is the official source of generally accepted accounting principles (GAAP) in the United States. FASB is the organization responsible for issuing and maintaining GAAP.
What is an ASC 718 valuation?
An ASC 718 valuation, also known as a fair value determination, is the process of determining the fair value of an equity award for the purposes of accounting for stock-based compensation under Accounting Standards Codification Topic 718. Under this set of standards, the expense associated with stock-based compensation is measured at the grant date, based on the fair value of the award.
Is an ASC 718 valuation the same as a 409a valuation?
An ASC 718 valuation and a 409A valuation are similar, but they serve different purposes.
An ASC 718 valuation, also known as a fair value determination, is the process of determining the fair value of an equity award for the purposes of accounting for stock-based compensation under Accounting Standards Codification Topic 718. This valuation is used to calculate the expense associated with the award and to disclose information about the award in the financial statements.
A 409A valuation, on the other hand, is a valuation of the fair market value of the company’s common stock for the purposes of complying with Internal Revenue Code Section 409A. Section 409A sets forth rules for deferred compensation, including certain types of equity awards, to ensure that the compensation is taxed appropriately.
To comply with Section 409A, companies must determine the fair market value of their common stock at least once a year. This valuation is used to set the exercise price of stock options and to determine the amount of income that must be included in an employee’s taxable income when certain types of deferred compensation are paid. Startups should hire an outside, qualified firm to conduct the valuation and to produce a report that will pass muster with the IRS.
While both an ASC 718 valuation and a 409A valuation involve determining the fair value of equity awards, they serve different purposes and are governed by different rules. So you can’t just produce one and then reduce the cost! An ASC 718 valuation is used for accounting and financial reporting purposes, while a 409A valuation is used for tax purposes.