Phantom equity is a compensation arrangement that mirrors the value of real company shares without transferring actual ownership, paying out cash bonuses when specific milestones are achieved or when the company is sold.
Phantom equity tracks the value of real shares in your company.
When the company increases in value or gets sold, you receive a cash payment equivalent to what those "phantom" shares would be worth.
You never actually own shares or have voting rights - it's purely a contractual promise to pay you money.
Companies use phantom equity to reward team members without diluting actual ownership or dealing with complicated share transfer paperwork.
It's particularly popular when founders want to keep their cap table simple or when regulations make issuing real shares overly complex.
The company also avoids creating new shareholders who might have voting rights or legal claims.
Phantom equity payments are typically taxed as regular income when you receive the cash, similar to a bonus.
This differs from real shares, which might qualify for more favourable capital gains treatment.
You'll pay tax based on your income bracket at the time of payout, so the timing matters significantly.
Payouts usually happen when predetermined triggers occur: the company gets acquired, reaches a funding round, hits revenue targets, or after you've worked there for a certain period.
Some agreements include "dividend equivalent rights" that pay out regularly.
Always check your specific agreement, as payout terms vary enormously between companies.
Your phantom equity rights depend entirely on your agreement's vesting schedule and forfeiture clauses.
Many arrangements include "bad leaver" provisions where you forfeit unvested (and sometimes vested) phantom equity if you leave before certain conditions are met.
Unlike real shares, phantom equity can simply disappear if the contract says so.
Phantom equity is only as reliable as the company behind it - if the business fails or runs out of cash, your phantom equity becomes worthless with no recovery options.
You're essentially an unsecured creditor.
Additionally, you have no ownership rights, no vote on company decisions, and the company can sometimes change the terms more easily than they could with real equity.
