A stock market debut can boost your personal wealth dramatically. But it’s essential to make the right moves long before your startup goes public.

For most investors, an initial public offering represents the first bite at a company. For insiders and employees, however, that opening bid often means something very different: a tangible and potentially life-changing payout for years of hard work. A dozen companies went public with valuations above $1 billion in 2023, no doubt minting a healthy crop of multimillionaires in the process.

However, as anyone in the startup space will tell you, nothing is certain in an IPO. The process leading to a market debut can go awry, taking once-precious holdings with it. After the IPO itself, volatility can dog these stocks for weeks or months. And even when everything goes right, poor financial planning can squander a lot of that new wealth.

“I’ve worked with clients who have already been ‘paper millionaires’ once or twice before,” says Aaron Petersen, senior wealth planning manager at Capital Group Private Client Services. “Better than perhaps anyone else, they understand that events like these can be difficult to navigate.”

While there’s no way to guarantee a particular outcome, it’s advisable to establish a personal wealth plan early — in other words, long before the IPO itself. One reason is that many strategies have strict timing rules and by the time you want to invoke them it may be too late if you haven’t laid the foundation long in advance.

“Planning is all about what can you do with those shares before the IPO,” adds Jeff Ruderman, a wealth planning specialist. “Afterward, the window for some of the more powerful planning opportunities is already closed.”

When planning for an IPO, earlier is better.

The IPO planning process really starts as soon as you are given equity compensation of any kind, even if your company won’t go public for years. That’s because you’ll likely lose out on some of the more powerful planning opportunities once the IPO formally starts. Insiders and employees should contact their independent legal and tax advisors to discuss their specific circumstances and potential strategies.

As an example, Petersen points to the 83(b) election, which allows you to pay income tax on restricted stock given as compensation in the year it’s granted, rather than when the grants vest. Given how rapidly a burgeoning business can grow in value, this can translate to significant savings. Critically, however, the 83(b) choice must be made when the stock is initially offered. If you’re given 100,000 shares over a period of three years, you can’t claim an 83(b) election on the final tranche in year 3 — you’ve got to pay the entirety of the income taxes in year 1, or be taxed at the current value in subsequent years.

Other options put restrictions on when you can sell stock, which has implications for wealth planning. The popular qualified small business stock, or QSBS, exemption does just that, requiring a five-year minimum ownership threshold to qualify for its potentially generous tax benefit. Having a clear plan can help you better navigate the tradeoffs between liquidity and savings. Because QSBS only applies to stock issued in the relatively early days of a startup — when its assets are valued at $50 million or less — you’ll need to begin thinking through your options and the range of potential outcomes very early in the game, potentially years before going public is a serious consideration.

“Discussing which planning strategies are available for various equity compensation types is key to making the most of an IPO,” Petersen adds. Any wealth plan needs to connect your holdings to your goals in an actionable way.

Everyone has some idea about what they want to do with their wealth — building a business, upgrading a house or maybe just seeing the world — but a wealth plan requires far more detail and precision. A good wealth plan will ask you to drill down into your costs, both ongoing ones to maintain your lifestyle and one-time expenses you expect to incur. Only then can you make an informed decision regarding your holdings.

This starts with some very basic questions: How much do you plan to spend on routine monthly expenses? What are your long-term goals, such as college tuition for your children? Beyond that, what do you want to do with any surplus wealth? Do you have charitable goals, or do you want to build something to leave to your heirs?

Once you have clear and detailed answers, you can turn to the critical task of examining your holdings. People who stand to benefit from an IPO often have complicated finances, even by the standards of high net worth investors.

“What are the various forms of your holdings? How much exposure do you have to your company’s stock? What continued amount are you expected to get? Are you required to maintain a certain percentage of these stocks? These questions are all central to a wealth strategy analysis,” Ruderman explains.

With both pieces of the puzzle — a comprehensive list of where you want to go and the tools you have to get you there — you can begin charting your journey with your trust & estate and tax specialists alongside your Private Wealth Advisor. With an IPO potentially in the mix, your plan will likely anticipate many considerations and strategies that other investors can often ignore.

For example, beneficiaries of an IPO tend to have highly concentrated portfolios comprised primarily of their company’s stock. That creates a conundrum of sorts: On one hand, there can be a strong psychological attachment to the stock and a reluctance to part with any shares, in part out of the belief that a company that has exceled throughout its brief existence will continue to thrive in the future. On the other hand, a heavy reliance on a single stock is dangerous and can be especially vulnerable to volatility.

“I’ve spoken to people who fell in love with the idea of a particular, on-paper net worth,” Ruderman says. “But it’s easy to let a big figure get in the way of a holistic view of your portfolio, and how you can get the best use out of it.”

Similarly, some rules that don’t see much general use can provide you with an outsize benefit, Petersen adds. For example, if part of your stock holdings is held in a qualified retirement account like a 401(k), you might be able to reduce your tax impact through a strategy referred to as net unrealized appreciation, or NUA.

No matter where you are in the process, we can help you evaluate your options.

Startups move fast and circumstances can change in a heartbeat. Valuations can soar on the back of new funding, and far-off business plans can suddenly become pressing. That means it’s essential to understand your options and what they might mean for you. Talk to your Private Wealth Advisor today about planning opportunities to discuss with your legal and tax advisors that can help you make the most of tomorrow.                                                                   

Investments are not FDIC-insured, nor are they deposits of or guaranteed by a bank or any other entity, so they may lose value.

Capital Group Private Client Services does not provide legal or tax advice. For estate planning or taxation matters, investors should consult with a legal and/or tax advisor regarding their individual circumstances.