Tax
Section 280G at a Startup Exit: The 20% Excise Tax and the 75% Vote That Prevents It
Section 280G can hit a startup exit with a 20% excise tax on accelerated equity. Here's how the 3x cliff works and the 75% shareholder vote that avoids it.
By 409.AI Team - 2026-08-20
# Section 280G at a Startup Exit: The 20% Excise Tax and the 75% Vote That Prevents It
The term sheet says $180 million. Your equity accelerates at close, the retention pool is signed off, and everyone is planning the announcement. Then the buyer's tax counsel sends a diligence request with a line item nobody on the founding team has seen before: "280G analysis, including acceleration schedules and base amount calculations for all disqualified individuals."
A week later you learn that your CTO is facing a six-figure federal excise tax on money the company was always going to pay her, and that the company loses its deduction on the same dollars. Nothing about the deal changed. The tax was sitting in the option agreements the whole time.
This is Section 280G, the golden parachute rule. It was written for public-company executives collecting eight-figure severance in hostile takeovers, and it catches venture-backed startups constantly, because what usually triggers it is not a severance package. It is ordinary equity acceleration. Most private companies can eliminate the problem with a shareholder vote, but that vote has requirements that are easy to get wrong and it has to happen before closing.
What Section 280G actually taxes
Two code sections work together. [Section 280G](https://www.govinfo.gov/content/pkg/USCODE-2023-title26/pdf/USCODE-2023-title26-subtitleA-chap1-subchapB-partIX-sec280G.pdf) denies the company a deduction for any "excess parachute payment." Section 4999 imposes a nondeductible 20% excise tax on the individual who receives it, on top of ordinary income tax and payroll tax.
A parachute payment is any payment in the nature of compensation to a disqualified individual that is contingent on a change in ownership or control, where the aggregate present value of all such payments to that person equals or exceeds three times their base amount. A disqualified individual is an employee, independent contractor, or similar service provider who is an officer, a shareholder, or a highly compensated individual. At a startup that sweeps in the founders, most of the executive team, and often a few senior engineers.
The base amount is the individual's average annual compensation over the base period, which the statute defines as the most recent five taxable years ending before the change in control. If someone joined two years ago, you annualize over the period worked.
Here is the part that surprises people. The three-times test is a cliff, but the tax is not calculated on the amount above the cliff. Once you cross it, the excess parachute payment is everything above one times the base amount.
The cliff, with numbers
Say your CTO has averaged $240,000 in W-2 compensation over the base period, so her base amount is $240,000 and her threshold is $720,000.
At close she receives a $250,000 change-in-control bonus, and her accelerated equity carries a 280G value of $600,000. Total contingent payments: $850,000. That clears $720,000, so all of it becomes parachute payments.
The excess parachute payment is $850,000 minus the $240,000 base amount, or $610,000. She owes a 20% excise tax of $122,000. The company loses the deduction on $610,000, which at a 21% federal rate is roughly $128,000 of forgone tax benefit. Between the two of them, about $250,000 of value evaporates.
Now rerun it with $719,000 of contingent payments. The excise tax is zero and the deduction survives intact. That last $131,000 of payments triggered roughly $250,000 of cost, with no phase-in and no rounding grace. It is why deal lawyers spend real hours on what looks like a rounding error in a $180 million transaction.
Two things soften the math. Compensation the company can establish as reasonable for services actually rendered before the change in control reduces the excess parachute payment, and reasonable compensation for post-closing services, such as a genuine non-compete, can be carved out of parachute payments altogether. Both require substantiation, not assertion.
Why equity acceleration is almost always the culprit
Founders rarely have the multi-million dollar severance the rule was aimed at. What they have is a pile of unvested options and RSUs that vest on a change in control.
Single-trigger acceleration is a parachute payment by definition. Double-trigger acceleration counts too when the second trigger fires in connection with the deal, which it usually does for executives who are not staying. Our walkthrough of [double-trigger RSUs and the second trigger](https://www.409.ai/articles/double-trigger-rsus-ipo-taxation-409a) covers how those triggers work.
The regulations do not treat accelerated equity as worth its full value for this purpose, which is where most of the planning happens. Under [Treas. Reg. section 1.280G-1](https://www.govinfo.gov/content/pkg/CFR-2023-title26-vol4/pdf/CFR-2023-title26-vol4-sec1-280G-1.pdf), Q/A-24(c), when vesting is accelerated the amount treated as contingent on the change in control is the amount by which the accelerated payment exceeds the present value of that payment absent the acceleration, plus an amount reflecting the lapse of the obligation to keep performing services. That second piece is fixed by formula: 1% of the accelerated payment for each full month between the date vesting actually occurs and the date it would have occurred on the original schedule.
Work through a tranche. Your CTO holds an option tranche with a 280G value of $120,000 that would have vested twelve months after the closing date. Discounting is done at 120% of the applicable federal rate, compounded semiannually. Assume that rate is running around 5.5%, which puts the present value of the same $120,000 twelve months out at roughly $113,700. The difference is about $6,300. Add the lapse amount, 1% times $120,000 times twelve full months, or $14,400. The parachute value of that tranche is roughly $20,700, not $120,000.
Applied across a full acceleration schedule, that treatment can cut the parachute value of accelerated equity sharply, which is often the difference between clearing the three-times cliff and sitting under it. A model that uses intrinsic value will report a 280G problem that does not exist; one that ignores the 1% monthly adder will miss one that does. The AFR changes monthly, so use the rate in effect on the valuation date.
One trap for teams with incentive stock options: acceleration bunches option shares into a single calendar year, and [Section 422(d)](https://www.govinfo.gov/content/pkg/USCODE-2023-title26/pdf/USCODE-2023-title26-subtitleA-chap1-subchapD-partII-sec422.pdf) limits ISO treatment to $100,000 of stock first exercisable in any one year. Everything above that converts to nonqualified options, with the consequences described in our post on [how ISOs and NSOs are taxed](https://www.409.ai/articles/iso-vs-nso-how-stock-options-are-taxed). Extending exercise windows at the same time compounds it, which we unpack in [what extending the exercise window really costs](https://www.409.ai/articles/extending-post-termination-exercise-window-iso-nso-409a).
You cannot value the options off the spread
The IRS is explicit about this. [Rev. Proc. 2003-68](https://www.irs.gov/pub/irs-drop/rp-03-68.pdf) provides the valuation rules for stock options under Sections 280G and 4999, and it states that an option's value "will not be considered properly determined if the option is valued solely by reference to the spread between the exercise price of the option and the value of the stock at the time of the change in ownership or control."
The safe harbor is a Black-Scholes calculation reduced to a lookup table. The value equals the number of shares covered by the option, multiplied by the spot price of the stock, multiplied by a valuation factor drawn from a table built on four inputs: the volatility of the underlying stock, the exercise price, the spot price, and the term remaining on the valuation date.
The volatility bands are coarse on purpose: low is an annual standard deviation of 30% or less, medium runs above 30% and below 70%, and high is 70% or greater. Private startup equity generally lands in the high band, and the assumption has to be reasonable rather than convenient. The safe harbor has edges too. It cannot be used if the option term exceeds 120 months, or if the spread factor exceeds 220%.
The spot price is where your valuation work meets your deal, and in a closing that is normally the per-share merger consideration for common stock. Our explainer on [OPM versus PWERM](https://www.409.ai/articles/409a-allocation-methods-opm-pwerm-backsolve) covers how total equity value gets allocated down to common, and the [liquidation preference waterfall](https://www.409.ai/articles/liquidation-preferences-waterfall-common-stock-exit) determines what common actually receives once the preferred stack is paid.
The escape hatch: a shareholder vote most startups can use
Private companies get an exemption public companies do not. Under Q/A-6 of the regulations, a payment is not a parachute payment if no stock in the corporation was readily tradeable on an established securities market immediately before the change in control, and the shareholder approval requirements of Q/A-7 are met.
Those requirements are specific. The payment must be approved by more than 75% of the voting power of all outstanding stock entitled to vote immediately before the change in control, and before the vote there must be adequate disclosure to everyone entitled to vote of all material facts concerning all material payments that would otherwise be parachute payments. The regulation defines adequate disclosure as full and truthful disclosure of the material facts plus whatever else is needed to keep the disclosure from being materially misleading.
The vote also has to be real. It must determine the disqualified individual's right to receive the payment, or to retain it if it was already made, which is why each affected executive signs a waiver giving up the payment unless shareholders approve it. A vote that ratifies something the executive would receive regardless does not qualify.
Then comes the rule that catches teams off guard. Stock owned, actually or constructively under Section 318, by a disqualified individual who would receive parachute payments is not counted as outstanding stock and is not considered in determining whether the more than 75% threshold was met. Founders usually hold a large share of the voting common and are usually disqualified individuals, so their shares leave both the numerator and the denominator. The vote effectively belongs to your investors and non-executive holders. If every holder of voting power is a disqualified individual or a related person, the regulation flips back and their votes do count.
A second, narrower exemption covers corporations that would qualify as a small business corporation under Section 1361(b), tested without regard to the nonresident alien shareholder rule in Section 1361(b)(1)(C), whether or not an S election is in effect. Most venture-backed companies fail it: preferred stock is a second class of stock, and fund investors are entity shareholders. Bootstrapped and founder-owned companies often do qualify, and for them the analysis stops there.
What this means for your deal timeline
280G work is slower than it looks. You need five years of compensation history for each disqualified individual, a complete acceleration schedule by tranche, an option valuation that follows Rev. Proc. 2003-68, a disclosure statement, waivers, and a vote with a clean record. Investor signatures take time. Starting after the definitive agreement is signed is how teams end up choosing between a rushed vote and a real tax bill.
The lost deduction shows up in the acquirer's model too, and buyers negotiate over it, sometimes by reshaping the retention package. The same closing drives their [purchase price allocation under ASC 805](https://www.409.ai/articles/asc-805-purchase-price-allocation-startup-acquisition), and any [earnout](https://www.409.ai/articles/earnout-contingent-consideration-valuation-asc-805) has to be tested for whether it too is contingent on the change in control.
The practical takeaway is narrower than "get a 280G analysis." Pull the base amount and acceleration data for your five or six most senior people before you sign anything, run the Q/A-24(c) calculation properly instead of using intrinsic value, and check who on your cap table can actually vote once disqualified individuals are stripped out. Companies that learn in week one that they clear the three-times threshold with room to spare stop worrying about it. Companies that learn it in the final week usually pay for the discovery.
And if your option valuations rest on a common share price nobody has refreshed lately, fix that before a process starts rather than during one. A current [409A valuation](https://www.409.ai/products/409a) is a defensible starting point for the 280G modeling and for every other equity question diligence is about to raise.
*This article is general information, not tax or legal advice. 280G calculations are fact-specific and the approval procedure varies with your cap table, so work through both with your tax counsel.*