The rules require that employees must also hold the interests for at least two years after grant. In other words, profits interests must only apply to the growth of the value of the company. Proposed (but never finalized) Revenue Ruling 2005-43 stated that profits interests would not be taxed at grant if they would have no value if the company were liquidated at the same time and the basic safe harbor rules are met. If there is no value at grant, then, the tax is zero, and taxes would only be paid when the interest is sold, at which time capital gains tax rates would apply. The employee would pay taxes on the value of any difference between the grant price and any consideration paid at ordinary income tax rates, then pay no further taxes until paying capital gains tax on subsequent appreciation at sale. This fixes the ordinary income tax obligation at the time of grant. In the typical arrangement, an employee would receive an award and would be treated as if an 83(b) election had been made, proided certain basic safe harbor rules are met (the employee can also affirmatively make the election). Vesting requirements can be attached to this interest.

It is not literally a profit share, but rather a share of the increase in the value of the LLC over a stated period of time. The most commonly recommended approach to sharing equity in an LLC is to share 'profits interests.' A profits interest is analogous to a stock appreciation right. This article explores how this can be achieved. But many LLCs want to reward employees with an equity stake in the company. As a result, LLCs cannot have employee stock ownership plans (ESOPs), give out stock options, or provide restricted stock, or otherwise give employees actual shares or rights to shares. LLCs are similar in many ways to S corporations, but ownership is evidenced by membership interests rather than stock. Limited liability companies (LLCs) are a relatively recent form of business organization, but one that has become increasingly popular.

Payoff vs profit of an option