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Types of Token Compensation: Key Benefits & Considerations

September 19, 2023

Types of Token Compensation: Key Benefits & Considerations
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Key Takeaways

Understanding the common types of token compensation can make or break your compensation and incentive alignment plans. This guide will tell you all you need to know to get started.

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How you structure your token compensation plan can make a massive difference in the outcomes for your employees, advisors, and investors. The first step to structuring your token compensation plan correctly is by understanding the common and compliant forms of token compensation that exist today.

We will review the most common forms of token compensation, how they differ from each other, and how they differ from traditional stock compensation.

Common Types of Token Compensation

The four main types of token compensation in use today are:

  • Token Purchase Agreements (TPAs), 
  • Restricted Token Awards (RTAs), 
  • Restricted Token Units (RTUs), and 
  • Token Options

This list is in no way exhaustive, but serves as a great starting point. Let's explore how each token compensation type is used in the market today.

Restricted Token Awards

Restricted Token Awards (RTAs) are immediately granted to the employees with full ownership rights over the tokens, and are immediately transferred to the employee’s digital wallet or an intermediary wallet that employees may draw from when restrictions are lifted. RTA tokens are subject to a "lock-up" period during which they cannot be sold or transferred, and “claw back” rights, which provide the grantor with the right to take back the tokens before they have vested. 

How are RTAs used?

RTAs are often used prior to a token being released for tax purposes. The United States and other jurisdictions allow recipients to file a form called an “83(b) election” that recognizes receipt of the tokens for tax purposes when granted even if lock-up or claw-back restrictions are still in place. Early recognition of the tokens for tax purposes when granted is good for employees because the value of the tokens for tax purposes is usually minimal pre-release. If recipients were to recognize the tokens later when the value is higher, their taxes would be higher too, without necessarily being able to liquidate a portion of the tokens in order to pay the income taxes due.

In order to transfer tokens while maintaining legal restrictions around them, RTAs are often administered using multi-signature intermediary wallets, which means that the tokens are not fully self-custodied until the vesting period for the tokens ends.

What should you watch out for?

RTAs are usually not taxable until the lock-up and claw-back period ends, but in the United States, employees may elect to be taxed on the entire token grant when granted through an 83(b) election. Specifically in the US, an early 83(b) tax election also starts the clock for capital gains tax purposes.

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Token Purchase Agreements

Token Purchase Agreements (TPAs) are like RTAs, with similar restrictions on the tokens until they vest, except that they establish a purchase price to acquire the initial grant of tokens. 

How are TPAs used?

Like RTAs, TPAs would most often be used before the token launch, to allow workers to pay taxes at grant when the token value is low. However, because workers must pay a price for the tokens at grant, that purchase price may be set at the token value to nullify taxable income and set the basis for the tokens at the purchase price.

What should you watch out for?

TPAs require those receiving token grants to pay a purchase price, which might not be well received by employees.

Restricted Token Units

Restricted Token Units (RTUs), similar to Restricted Stock Units (RSUs), are granted a fixed number of tokens that are subject to a vesting schedule. Like RSUs, the vesting schedule for RTUs can be flexible, but tends to follow the standard precedent of a four year vest with a one year cliff, with the tokens vesting monthly afterwards. 

How are RTUs used? 

RTUs are most often used once a token is launched. Tokens issued under an RTU agreement generally are not taxable to the recipient until they vest. RTUs are also usually easier to administer than RTAs because they need not be transferred to the employee until vesting. Since RTAs are transferred to employees but restricted until vesting, RTAs require some lockup and clawback mechanism in place until they vest.

What should you watch out for?

Once the vesting period for an RTU lapses according to schedule, RTUs convert into tokens when the tokens are then sent by the company to the employee’s digital wallet. That is typically the time that RTUs become taxable at their then Fair Market Value to the employee, with the method of token valuation determined by the local tax authority.

Token Options

Token options give employees the right, but not the obligation, to purchase a specified number of tokens at a predetermined price (the "strike price" or “exercise price”) within a certain timeframe. 

How are Token Options used?

Token options can be attractive to employees and contractors because it usually allows them to benefit from the potential increase in the value of the tokens without being taxed on the value of the options until the recipient exercises them. Token options can be structured in various ways, such as with vesting schedules and exercise windows. 

Conclusion

Getting to know the most common forms of token compensation is only the first step. Understanding how to allocate, design, set up and execute on your token grant agreements are other major obstacles all compliant organizations in the crypto space will have to think about.

At Toku, we work with the top companies in this space such as Protocol Labs and Gnosis. Make your Token Grant administration simple. Skip out on those sleepless nights by working with Toku today.