You Can't Grant Stock Options Without This One Document

You found your first hire. Your lawyer just told you something you've never heard of.

You've been building for months. You've found the engineer — or the designer, or the ops lead — who's going to make this real. You want to offer equity. You open a cap table template, type in some numbers, and your lawyer stops you.

"You need a 409A first."

Here's what that means in plain terms: the IRS requires a formal determination of the fair market value of your common stock before you can grant stock options. This requirement comes from IRC Section 409A↗, enacted in 2004. The rule is simple — options must be priced at or above FMV. The consequence of violating it is severe — but the penalties fall on your employees, not on you.

Under IRC §409A(a)(1)↗, employees holding options granted below FMV face immediate taxation of all vested deferred compensation, an additional 20% federal penalty tax, plus interest from the vesting date. A $50,000 option grant priced $0.50 below FMV can generate a $15,000+ tax bill for the employee before they've seen a dollar of liquidity. (For the full penalty breakdown, see What Happens If You Grant Options Without a 409A.)

That's the document. A 409A valuation. An independent appraisal, performed by a qualified appraiser, establishing the fair market value of your common stock in a signed, written report. Without it, you can't compliantly price an option grant.

What the 409A actually produces

A 409A valuation produces three things you need to act on:

A fair market value per share. This is the number. The price at which a willing buyer and a willing seller would transact, as defined by Revenue Ruling 59-60↗. For an early-stage startup, this number is typically quite low — often $0.10 to $1.00 per share. That's normal. Common stock at your stage lacks the protections that investors' preferred stock carries (liquidation preferences, anti-dilution rights, board seats). A lower FMV is not a problem — it's a feature. It means your employees get a lower strike price and more upside.

A signed, written report. The report documents the methodology, assumptions, comparable companies, and calculations behind the FMV conclusion. It's typically 30–60 pages. The signature matters: in Estate of Hoensheid v. Commissioner (T.C. Memo 2023-34), the Tax Court scrutinized whether 409A reports met the signed written report requirement under Treasury Reg §1.409A-1(b)(5)(iv)↗. An unsigned report may not satisfy safe harbor. Make sure your provider signs.

A basis for the strike price. The FMV becomes the exercise price in your option agreements. This is the number that goes in your offer letters — "options to purchase X shares at $Y per share, where $Y is the FMV as determined by our independent 409A valuation."

This is not your fundraising valuation. Your VC valuation prices preferred stock. Your 409A prices common stock. The two numbers are always different — and both are correct. (See 409A Valuation Explained for the full breakdown of how they differ.)

Three things first-time founders miss

Most founders learn about the 409A, get one, and think they're done. They're not. Three requirements catch first-timers off guard:

The report must be signed. Not "generated." Not "available in a portal." Signed by a named, qualified, independent appraiser. This is a safe harbor requirement. Some platform-based providers generate reports algorithmically without an individual appraiser signing. That creates a potential gap in safe harbor eligibility. Ask your provider: "Who signs the report, and are they independent?" If the answer is unclear, the report may not protect you. (See 409A Safe Harbor: The Legal Shield Every Startup Needs for the full requirements.)

It expires after 12 months — or sooner. Under Treasury Reg §1.409A-1(b)(5)(iv)(B)↗, a 409A valuation is presumed valid for 12 months from the valuation date — provided no material event occurs. A funding round, a major revenue change, a key executive departure — any of these can trigger the need for a new valuation before the 12-month mark. After expiration, every option grant you issue lacks safe harbor protection.

The board must formally adopt the FMV. The 409A establishes what the FMV is. The board resolution is what makes it official. The board consent should reference the 409A report, state the concluded FMV per common share, and authorize grants at that strike price. Without this step, the grants may lack proper corporate authorization — a due diligence red flag that surfaces during fundraising or M&A.

This is the step most founders skip. They get the 409A, enter the strike price into their cap table software, and send offer letters. Months later, Series A counsel asks "where's the board consent for these grants?" and it doesn't exist. Retroactive approval is possible but messy. Investors notice.

The sequence that makes it right

The full compliance sequence for your first option grants:

Step 1. Your attorney drafts an equity incentive plan (EIP) and you adopt it. Step 2. Your board approves the plan and the option pool size. Step 3. You obtain a 409A valuation to establish FMV. Step 4. Your board adopts the FMV and authorizes specific grants. Step 5. You issue option agreements at the strike price set by the 409A.

Steps 1, 2, and 5 involve your attorney and cap table tool. Steps 3 and 4 are where Express 409A comes in. (For the detailed walkthrough, see The 5-Step Checklist Before Your First Stock Option Grant.)

Express 409A delivers in 48 hours and includes a board resolution draft so you know exactly how to adopt the FMV and start granting options the same week. The strike-price schedule tells you exactly what number to put in your offer letters. Upload your docs, and we start same-day — no call required.

See how Express 409A works →