A sweat equity agreement is a legal document signed by the partners that protects their right to equity in the company.
Understanding Sweat Equity
Sweat equity refers to a person’s non-monetary contribution towards a business venture. It often comes in the form of labor, time, and skills.
Calculating Sweat Equity
To calculate sweat equity, first determine the value of the business. Then divide an investor’s monetary investment by the percentage of equity it represents. The remainder is the sweat equity.
- A comprehensive, well-written sweat equity agreement is always necessary.
- Avoid six critical mistakes when drafting a sweat equity agreement.
- Determine Equity Distribution: Decide on the percentage or amount of equity that will be allocated to the sweat equity participant.
- Owners and employees accept below-market salaries in exchange for equity.
- With multiple investors, limit sweat equity to equal their stakes.
- Sweat equity transactions are taxable.
A sweat equity agreement should be a mutually agreed legal document outlining the terms transparently.