Prepaid variable forward contracts are complex financial instruments that can be used by shareholders to get liquidity without selling, but are often expensive when compared to other liquidity alternatives.
What are prepaid variable forward contracts?
Prepaid variable forward contracts are complex instruments that can be used by shareholders to get liquidity without selling. They sort of look like a sale and sort of look like zero-interest loans. They inherit attributes of both.
What is a forward agreement and how is it related to prepaid forward contracts?
A forward is an agreement between a buyer and a seller to transact in the future under terms agreed upon today. Prepaid variable forwards are a subtype with nuances specific to when they're structured for startup equity.
How does the transaction occur in a prepaid forward contract?
The buyer delivers cash to the seller today, but the seller won't deliver the shares until a future date. For startup equity, that future date is usually defined as a liquidity event.
Do you have to pay taxes on a prepaid forward contract?
Forwards like this do come with a tax advantage for the seller - they don't have to pay taxes on the sale until the future date when the shares are delivered to the buyer. Be careful though. While it's great to defer taxes, it does mean that a seller can be caught out with a big tax bill for cash that was delivered much earlier.
Do startups support the use of forwards?
Most often, no. These are complex transaction that usually complicate the ownership of the equity providing the companies with less control over the equity.
