Employee Participation: ESOPs, VSOPs & Co. – Legal Compliance

Participation programs such as ESOPs (employee stock option plans) or VSOPs (virtual stock option plans) are not only a means of retaining employees, but also a decisive factor in the competition for talent. However, the legal structure can be complex and fraught with pitfalls if not carefully planned and implemented.  

Why employee participation? 

In the early stages of a company's development, its financial resources for retaining and incentivizing employees through salaries are often limited. Participation programs enable key personnel to share in the future growth of the company without any immediate cash outflow. At the same time, they promote entrepreneurial thinking and action, long-term motivation, and a stronger identification with the company. 

ESOP vs. VSOP – a legal and practical comparison 

ESOP (Employee Stock Option Plan): Employees are granted the right to purchase real shares in the company at a predetermined price in the future. This usually requires a capital increase and involves corporate law formalities. Exercising the options results in actual ownership with all the rights and obligations of a shareholder – including voting rights, information rights, and tax consequences.  

VSOP (Virtual Stock Option Plan): These are purely contractual claims that are economically similar to an equity interest but do not grant any real shares and therefore no real membership rights. In the event of an exit (e.g., sale of the company or IPO), the beneficiaries receive a payout from the company. VSOPs are much more common in Germany because they are easier to implement, do not establish shareholder status, and generally do not require notarization.  

Legal structuring of participation programs: What is important? 

The legally compliant design of participation programs requires careful planning and coordination, drawing on expertise in company law, labor law, and tax law. The most important aspects include: 

Vesting rules: Four years with a one-year cliff period is common. This means that entitlement only arises after one year, followed by monthly or quarterly “accrual.” In the event of early departure, unvested shares usually expire. 

Good leaver/bad leaver clauses: These usually differentiate between voluntary and involuntary departure. While good leavers (e.g., in the event of illness) retain all or part of their entitlements, bad leavers (e.g., in the event of termination by the company for good cause) lose their entitlements in full. 

Exit participation: The calculation of the payout in the event of exit must be clearly defined – especially for VSOPs. It must be specified whether the payout is based on the gross or net sales proceeds, whether certain thresholds apply, and how transaction costs are to be handled. 

Tax treatment: While ESOPs often result in a monetary benefit upon exercise (subject to income tax), VSOP payouts are considered other income. The tax treatment can be complex and depends heavily on the specific structure. An early tax review is therefore essential. 

Employment law integration: Participation programs should not be part of the employment contract but should be regulated in separate agreements. This allows employment law risks (e.g., in the event of protection against dismissal or transfer of operations) to be better managed.  

Coordination under company law: In the case of ESOPs, it must be ensured that the company's articles of association permit the issuance of options or new shares. Shareholder agreements must also be adapted, particularly with regard to co-sale rights, pre-emption rights, and dilution protection.  

Conclusion 

Employee participation is a powerful tool – but only if it is legally sound, tax-efficient, and economically viable. Standard solutions often fall short, especially for growing or internationally active companies.  

An individual, legally sound structure is therefore essential.  

Are you planning an employee participation program or would you like to revise existing models to ensure they are legally compliant? Talk to us – we can support you in designing, legally implementing, and tax optimizing your participation models.