Tech employees at high-growth startups often find themselves equity-rich but cash-poor. Stock options and RSUs representing significant wealth remain locked up, with no clear path to liquidity until an IPO or acquisition that may be years away. Equity-based loans offer a solution—providing access to capital today while maintaining ownership of shares that could appreciate substantially.
This guide explains how equity-backed financing works, when it makes sense, and how to evaluate different structures.
The Liquidity Problem
Tech professionals at late-stage startups face a common challenge: substantial paper wealth trapped in illiquid equity. Consider the typical profile of a senior engineer at a Series D startup:
Typical Scenario:
- Equity value: $2 million at last valuation
- Vested shares: 50,000 shares at $40 each
- Liquid net worth: $150,000 in savings
- Problem: Majority of wealth locked in illiquid equity
Key Constraints:
- Company Policy: Secondary sales often restricted or prohibited
- Tax Implications: Exercise and sale triggers significant tax liabilities
- Timing Uncertainty: IPO timeline remains unknown
- Concentration Risk: Single-stock concentration creates portfolio risk
Common Liquidity Needs:
- Exercise options (NSOs/ISOs) approaching expiration
- Tax obligations from AMT or income tax on exercise
- Portfolio diversification to reduce single-stock concentration
- Major life events: home purchase, education investments, family needs
Equity Loan Structures
Non-Recourse Loans
Structure: Loans secured only by pledged shares, where the lender cannot pursue other assets if the borrower defaults. Shares are held by a custodian as collateral.
Typical Terms:
- Loan-to-Value (LTV): 30-50% of share value
- Interest Rate: 8-15% annually
- Term: 2-5 years
- Prepayment: Usually allowed with minimal penalty
Advantages:
- Limited downside if shares decline in value
- Maintain full upside participation in share appreciation
- No personal liability beyond pledged shares
- No sale means no immediate tax event
Disadvantages:
- Higher interest rates than recourse loans
- Lower LTV ratios limit borrowing capacity
- Share lockup during loan term restricts flexibility
Recourse Loans
Structure: Loans with full personal guarantee, where the borrower remains liable for the full amount even if the collateral declines in value. Secured by shares plus personal guarantee.
Typical Terms:
- Loan-to-Value (LTV): 50-70% of share value
- Interest Rate: 6-10% annually
- Term: 1-5 years
- Covenants: May include margin call provisions
Advantages:
- Lower interest rates due to reduced lender risk
- Higher loan amounts available
- Potentially better overall terms
Disadvantages:
- Personal liability if shares decline significantly
- Margin call risk if company valuation drops
- Could force share sale at the worst possible time
Prepaid Forward Contracts
Structure: Cash advance against future share delivery. The borrower receives cash now and agrees to deliver shares (or cash equivalent) at maturity. Settlement can be in shares or cash depending on the contract terms.
Typical Terms:
- Advance Rate: 70-85% of current value
- Term: 2-5 years
- Upside Participation: Capped or shared with counterparty
- Floor Protection: Varies by structure
Tax Treatment:
- Current: Generally no immediate tax event
- At Settlement: Gain or loss recognized at share delivery
- Complexity: Tax advisor consultation essential
Best Use Cases:
- Maximum immediate liquidity needed
- Willing to cap upside potential
- Want downside protection
Decision Framework
- Borrow against shares you're uncertain about holding
- Take recourse loans without ability to cover margin calls
- Ignore tax implications of different structures
- Model scenarios including significant share price decline
- Match loan structure to your confidence in the company
- Consult tax and financial advisors before committing
When Equity Loans Make Sense
High Conviction Scenarios:
- Strong belief in company upside and growth trajectory
- Avoiding current taxable event provides significant value
- Clear, productive use for the capital (not speculative)
- Sufficient financial cushion to weather margin calls (if recourse)
When to Avoid Equity Loans
Risk Factors:
- Uncertain about company prospects or business model
- Overleveraged position would strain personal finances
- Borrowing without clear use case or investment plan
- Exit event (IPO/acquisition) likely in near term
Structure Selection Guide
| Choose This Structure | When You Want |
|---|---|
| Non-Recourse | Limited downside protection, risk mitigation |
| Recourse | Lower cost capital, higher LTV ratios |
| Prepaid Forward | Maximum liquidity now, willing to cap upside |
Use Cases and Examples
Option Exercise Financing
Scenario: Employee with expiring ISOs faces substantial exercise costs and tax liability.
Situation:
- Options: 25,000 shares at $5 strike price
- Current Value: $50 per share
- Exercise Cost: $125,000
- Potential AMT: $200,000+
Solution:
- Obtain non-recourse loan against exercised shares
- Loan Amount: $200,000 at 40% LTV
- Use: Cover exercise cost and AMT tax liability
- Outcome: Maintain full upside, defer taxes until eventual sale
Diversification Strategy
Scenario: Concentrated position in unicorn company creates excessive portfolio risk.
Situation:
- Shares: 100,000 valued at $5 million
- Net Worth Concentration: 85% in single stock
- Concern: Excessive risk if company stumbles or market corrects
Solution:
- Borrow $1.5 million at 30% LTV
- Use: Invest in diversified portfolio of liquid assets
- Outcome: Reduce concentration risk while maintaining equity exposure
Home Purchase
Scenario: Employee buying home in expensive market lacks sufficient down payment.
Situation:
- Home Price: $1.5 million
- Cash Available: $200,000
- Equity Value: $800,000 in pre-IPO shares
Solution:
- Borrow $200,000 against equity holdings
- Use: Increase down payment to avoid PMI
- Outcome: Better mortgage terms, keep shares for future appreciation
Provider Landscape
Specialized Lenders
EquityZen
- Focus: Pre-IPO equity transactions and liquidity
- Products: Loans and secondary sales facilitation
- Minimum: $100,000 loan amount
Forge
- Focus: Private market liquidity solutions
- Products: Loans, forward contracts, secondary transactions
- Minimum: Varies by structure and company
Secfi
- Focus: Startup employee financing solutions
- Products: Non-recourse loans, exercise funding
- Minimum: $50,000
Traditional Banks
Availability: Limited for private company shares; typically only available for public companies or those in active IPO process.
Requirements: Usually require shares to be publicly traded or near-IPO stage with strong institutional backing.
Terms: Generally better rates and terms if available, but strict eligibility criteria.
Key Comparison Factors
When evaluating providers, consider:
- LTV and Interest Rate: Total cost of capital
- Recourse vs Non-Recourse: Risk profile alignment
- Company Coverage: Which companies they finance
- Fees and Closing Costs: All-in transaction expenses
- Prepayment Flexibility: Early payoff options and penalties
Tax Considerations
Loan vs. Sale Comparison
| Approach | Tax Treatment | Timing Impact |
|---|---|---|
| Equity Loan | No taxable event when borrowing | Defers taxes potentially for years |
| Share Sale | Immediate capital gains tax | Tax due in current year |
Key Implication: Loans defer tax obligations, preserving capital and allowing continued appreciation.
Interest Deductibility
Investment Interest:
- Generally deductible against investment income
- Subject to margin interest limitations
- Use of proceeds matters for deduction eligibility
Tracing Rules:
- IRS tracks use of borrowed funds
- Investment use enables deduction
- Personal use may limit tax benefits
Settlement Tax Treatment
Share Delivery:
- Gain or loss recognized at delivery date
- Based on original cost basis
- Long-term vs. short-term holding period applies
Cash Settlement:
- Treated as constructive sale at settlement date
- Market value at settlement determines gain/loss
Professional Guidance
Necessity: Essential given complexity of equity compensation tax rules and structure-specific implications.
Recommended Specialists:
- Tax attorney with equity compensation experience
- CPA specializing in stock-based compensation
- Financial advisor familiar with equity loans
Timing: Consult before committing to any structure to optimize tax outcomes.
Risk Management
Share Price Decline Risk
Risk: Collateral value falls below outstanding loan balance.
Non-Recourse Impact:
- Walk away option; lose shares only
- No personal liability beyond collateral
- Limited total loss to pledged shares
Recourse Impact:
- Margin call requiring additional collateral
- Potential forced sale at unfavorable prices
- Personal liability for shortfall
Mitigation Strategies:
- Conservative LTV ratios (30-40% maximum)
- Maintain cash reserves for potential margin calls
- Regular monitoring of collateral value
Liquidity Event Timing Risk
Risk: Loan matures before shares become liquid through IPO or acquisition.
Mitigation:
- Match loan term to expected liquidity timeline
- Build in buffer time beyond anticipated exit
- Understand refinancing options if event delays
Refinancing Considerations:
- May need to extend or refinance if IPO postponed
- New terms may be less favorable
- Plan for multiple scenarios
Company-Specific Risk
Risk: Company fails, experiences down round, or valuation collapses.
Impact:
- Shares potentially worth less than loan amount
- Total loss of equity value in bankruptcy
- Recourse loans create personal liability
Mitigation:
- Non-recourse structure limits maximum loss
- Diversify use of proceeds (don't reinvest in same company)
- Monitor company performance and funding status
Interest Rate Risk
Risk: Rates rise on floating-rate loan structures.
Mitigation Strategies:
- Prefer fixed-rate structures for predictability
- Consider interest rate caps on floating-rate loans
- Factor rising rate scenarios into affordability analysis
Conclusion
Equity-based loans offer tech employees a powerful tool for accessing liquidity while maintaining ownership of potentially valuable shares. The right structure depends on your confidence in the company, risk tolerance, and specific financial needs. Non-recourse loans provide downside protection at higher cost, while recourse structures offer better terms with more risk.
Ready to unlock liquidity from your equity? Contact FundXYZ to discuss our Equity-Based Loans program offering financing solutions for tech employees with $50,000 minimum and competitive non-recourse terms.