Be a partner, CTO or just a freelancer?
"I write software myself and was involved in a couple of start ups.  One failed, another was wildly successful, but I did not receive much in compensation. The former I received stock, but since it failed, it was worthless anyway.  There should be compensation for your time in addition to equity in a company.   Any agreement needs be in writing.  In the later situation I was told to expect about a 17%/year bonus, but nothing could be guaranteed.  Translation:  ""It will never happen.""  It didn't, but I meet my lovely wife there so I have that for a bonus. Agreements need to address the bad things can happen.  What happens if one of you is no longer interested in continuing?  What happens if one of you die, or addicted to something?  What happens if one of you gets thrown in jail or disabled?  Right now you are full of optimism and hope, but bad things happen.  Cover those things while you still like each other. It might be enough to have a good salary, and some stock options.  You man not be interested in running the day to day business. Most of all good luck, I wish you all the best!" First, determine the workload he will expect.  Will you have to quit your other work, either for time or for competition?  How much of your current business will be subsumed into his business, if any?  Make sure to understand what he wants from you.  If you make an agreement, set it in writing and set some clear expectations about what will happen to your business (e.g. it continues and is not part of your association with the client).  Because he was a client for your current business, it can blur the lines. Second, if you join him, make sure there is a business entity.  By working together for profit, you will have already formed a partnership for tax purposes.  Best to get an entity, both for the legal protection and also for the clarity of law and accounting.  LLCs are simplest for small ventures; C corps are useful if you have lots of early losses and owners that can't use them personally, or if you want to be properly formed for easy consumption by a strategic.  Most VCs and super-angels prefer everybody be a straight C.  Again, remember to define, as necessary, what you are contributing to be an owner and what you are retaining (your original business, which for simplicity may already be in an entity).  As part of this process, make sure he defines the cap table and any outstanding loans.  Auntie June and Cousin Steve might think their gifts to him were loans or equity purchases; best to clear this issue up early before there's any more money in it. Third, with regard to price, that is an intensely variable question.  It matters what the cap table looks like, how early you are, how much work he's already done, how much work remains to be done, and how much it will pay off.  Also, if you do it, expect to be diluted by other employees, angels, VCs, other investors, strategics, and so on.  Luckily, more investors usually indicates a growing pie, so the dilution may not be at all painful.  But it should still be on your horizon.  You also need to consider your faith in your prospective partner's ability to run the business and to be a trustworthy partner (so you don't get Zuckerberg'd), and to market the business and the product to customers and investors. If you don't like the prospects, then opt for cash.  If you like the business but want to hedge, ask for compensation plus equity.  There are other tricks you could use to get out early, like forced redemption, but they probably wouldn't help either because it'd sour your relationship or the first VC or knowledgeable angel to come along will want you to relinquish that sort of right. It probably comes down to a basic question of your need for cash, his willingness to let you pursue outside work (hopefully high) and your appraisal of the business' prospects. Being a CTO is different than freelancing, obviously.  You have to ask yourself what you would more prefer to do! My initial recommendation would be to receive your normal freelance compensation for the freelance work you do AND separately deal with the issue of being a CTO.  At some point you will cease to be this project's freelancer should you become its CTO. Then again, by becoming the CTO immediately you should be able to negotiate a larger share of the company. Granted, my opinions should not be considered legal or financial advice and you should consult a professional before making any decisions.  Ja ja ja  ;)
Very good point. However, I would say stability.  Say I could just continue doing this one the side of my regular job, couldn't I do both?  Edit: I don't know why I keep getting down voted... I'm literally just asking valid questions. Sounds you need to read up on S corp structures. I think this would benefit you if you generate income even after you physically stopped working which is incomes from membership fees, royalties % of customer revenue, middle man etc...  Under the Scorp, you as the sole member must earn a wage that fair and at current market value. You pay social security and Medicare on this wage. The interesting thing here is that an Scorp can pay out earning dividends  without having to pay payroll taxes but the catch is that you, as the sole employee must earn a fair wage.   As for paying the other member you may want to look into 1099 contract work plus a finders fee. The 1099 hourly wage does not require you to pay Medicare and SS.   The common fee I'm used to is 5% of gross invoice. Then you would pay her an hourly wage. The company then bills these hours multiplied by 2 or 3 (or whatever you think is fair) to the client. Deduct expenses from this and that's your profit.   Example. Contractor brings Client A which is estimated as a  100 hour project with $100 cost in supplies and requires 2 hours of your time @ $40/hr.   You quote 100 hours @ $50 to client, client agrees and gives you down payment.   You then present the contract work to your contractor, they complete the work in 100 hours and bill you at $25.   You pay your contractor 2500 plus the 5% ($250)  and your company earns $2070 (5000 - 2500 - 100-80)  And you'll earn $80 minus the payroll tax.   Then at the end of the quarter or year or however you want to do earning payouts your LLC- Scorp will write you a check for $2070 or whatever earning % you want to take. This is then taxed at your income tax bracket.   One thing to keep in mind is what is preventing this other person from becoming your competition? A partnership would be great motivation to try and bring in as much work under the LLC. But if you start shafting people then they'll just keep the work and cut you out. "Hello!  First of all, I think it's great you're asking the community for help.  Asking for help when you need it is a sign of strength and self-awareness of your own limitations (which we all have, even the smartest business people ask questions, in fact they ask the most questions).  I'm wrapping up year 2 of doing what you're trying to do and am finally seeing real traction. I am a bit older than you and started out on my own 7 years after grad school, but I have learned a lot and don't mind sharing.  Here's some things you might find useful.  * Never work for free (working for ""equity"" or working for ""exposure"" is working for free).  People who offer you this because you're just starting out are parasites looking to sell your talents but not pay for them.  The only thing you can take away from attempts to do this is that your talents are in demand, which is good!    * Never sell yourself short: would you rather do 10 websites for a $1000 each or do 1 website for $10000?  You'll be doing a lot of projects in the middle, but one very important thing to bear in mind is that one $10000 website is a lot less work and may make you the same amount of money (or more) overall.  * In the beginning, maybe you think you need to build a portfolio. But you'd be surprised how many prospects don't care what's in your portfolio and in fact never look at the portfolio, which leads me to the most important bit of advice:  * Learn to sell yourself.  YOU are your company's first and main product.  Learn to sell yourself (as the smart kid, future Fortune 500 CEO who stays up all night getting things done, etc)  * Always aim high in your proposals.  You'd be surprised how many people don't negotiate at all.  That being said, always put something in your proposal that is a good idea but it beyond what their asking for.  If they ask you to come down in price, remove this feature and come down a little bit.  * Develop an ability to read how interested a prospect is in your services before you spring the price on them.  At your age, I was waiting tables.  This helped me to be able to read a customer to determine which waiter they wanted me to be: the attentive one, the high class one, the friend, or the quiet servile.  Consider taking on a side job to help you develop this skill.  * As I said above, some prospects will sign on the line without negotiating.  You might even take two proposals with you into a meeting with a prospect, one priced high and one low, and present the version that matches their interests.  Go high if they need something ""right now"".  * Remember you are your company's first product.  This means also that your time is the company's first commodity.   Be open to other things.  I have a background in mathematics and am most capable as a software developer and a web developer.  But I also help other companies sell and support physical products not at all related to technology.  Because it's highly profitable, I do it.  * When you're a one person business selling your time at the highest price is the name of the game.  But growing your business will require the help of others.  I found it helpful to first network with other like minded people and split project money according to skill level and time commitment on a per project basis.  This will allow you to take on bigger projects.    * But growing the company will eventually require you to hire (or contract) someone at a far lower pay rate than what you're bringing in.  The laws of supply and demand require you to do this as a business person if you're to grow the business (so that the business has money beyond what you're being paid). This is where the extra money comes from: selling the time of others at a higher price than you're paying them.  Be conscious of this.  Everyone you work with is not going to be your friend.  * Make your website awesome.  It doesn't have to be a work of art, but let it reflect the seriousness with which you approach your customers' projects.  Make sure there are no grammatical errors.  Find a website of someone highly successful who's doing what you're doing and emulate it.  You don't have to have a portfolio starting out.  Your website is your first portfolio item, and if it's awesome, prospects will think you'll do the same for them.  Good luck!  I'm sure I'm not the only one here who thinks your early developed entrepreneurship is going to take you far." "It's a tough thing to do.  You should look for a salaried position.  Your freelance skills will be much better received, if you've worked for a couple of companies doing programming full time.  Nothing beats working at it all day long for a few years. If you're set on being freelance, write some utility that will be popular, and submit it to Freshmeat.net.  Now that's asking a lot.  Those on the Web looking for programmers will most likely want you to work for 'sweat equity'.  That is, a share in the company for you labour.  In other words ""FREE"".  I've done my share of those, and if you're just getting into this, you should steer away from them.  You may hit the jackpot, but you won't sleep for the next few years ;-)" "This is such a common question here and elsewhere that I will attempt   to write the world's most canonical answer to this question. Hopefully   in the future when someone on answers.onstartups asks how to split up   the ownership of their new company, you can simply point to this   answer. The most important principle: Fairness, and the perception of   fairness, is much more valuable than owning a large stake. Almost   everything that can go wrong in a startup will go wrong, and one of   the biggest things that can go wrong is huge, angry, shouting matches   between the founders as to who worked harder, who owns more, whose   idea was it anyway, etc. That is why I would always rather split a new   company 50-50 with a friend than insist on owning 60% because ""it was   my idea,"" or because ""I was more experienced"" or anything else. Why?   Because if I split the company 60-40, the company is going to fail   when we argue ourselves to death. And if you just say, ""to heck with   it, we can NEVER figure out what the correct split is, so let's just   be pals and go 50-50,"" you'll stay friends and the company will   survive. Thus, I present you with Joel's Totally Fair Method to Divide Up The   Ownership of Any Startup. For simplicity sake, I'm going to start by assuming that you are not   going to raise venture capital and you are not going to have outside   investors. Later, I'll explain how to deal with venture capital, but   for now assume no investors. Also for simplicity sake, let's temporarily assume that the founders   all quit their jobs and start working on the new company full time at   the same time. Later, I'll explain how to deal with founders who do   not start at the same time. Here's the principle. As your company grows, you tend to add people in   ""layers"". The top layer is the first founder or founders. There may be 1, 2, 3,   or more of you, but you all start working about the same time, and you   all take the same risk... quitting your jobs to go work for a new and   unproven company. The second layer is the first real employees. By the time you hire   this layer, you've got cash coming in from somewhere (investors or   customers--doesn't matter). These people didn't take as much risk   because they got a salary from day one, and honestly, they didn't   start the company, they joined it as a job. The third layer are later employees. By the time they joined the   company, it was going pretty well. For many companies, each ""layer"" will be approximately one year long.   By the time your company is big enough to sell to Google or go public   or whatever, you probably have about 6 layers: the founders and   roughly five layers of employees. Each successive layer is larger.   There might be two founders, five early employees in layer 2, 25   employees in layer 3, and 200 employees in layer 4. The later layers   took less risk. OK, now here's how you use that information: The founders should end up with about 50% of the company, total. Each of the next five layers should end up with about 10% of the   company, split equally among everyone in the layer. Example: Two founders start the company. They each take 2500 shares. There are   5000 shares outstanding, so each founder owns half. They hire four employees in year one. These four employees each take   250 shares. There are 6000 shares outstanding. They hire another 20 employees in year two. Each one takes 50 shares.   They get fewer shares because they took less risk, and they get 50   shares because we're giving each layer 1000 shares to divide up. By the time the company has six layers, you have given out 10,000   shares. Each founder ends up owning 25%. Each employee layer owns 10%   collectively. The earliest employees who took the most risk own the   most shares. Make sense? You don't have to follow this exact formula but the basic   idea is that you set up ""stripes"" of seniority, where the top stripe   took the most risk and the bottom stripe took the least, and each   ""stripe"" shares an equal number of shares, which magically gives   employees more shares for joining early. A slightly different way to use the stripes is for seniority. Your top   stripe is the founders, below that you reserve a whole stripe for the   fancy CEO that you recruited who insisted on owning 10%, the stripe   below that is for the early employees and also the top managers, etc.   However you organize the stripes, it should be simple and clear and   easy to understand and not prone to arguments. Now that we have a fair system set out, there is one important   principle. You must have vesting. Preferably 4 or 5 years. Nobody   earns their shares until they've stayed with the company for a year. A   good vesting schedule is 25% in the first year, 2% each additional   month. Otherwise your co-founder is going to quit after three weeks   and show up, 7 years later, claiming he owns 25% of the company. It   never makes sense to give anyone equity without vesting. This is an   extremely common mistake and it's terrible when it happens. You have   these companies where 3 cofounders have been working day and night for   five years, and then you discover there's some jerk that quit after   two weeks and he still thinks he owns 25% of the company for his two   weeks of work. Now, let me clear up some little things that often complicate the   picture. What happens if you raise an investment? The investment can come from anywhere... an angel, a VC, or someone's dad. Basically, the   answer is simple: the investment just dilutes everyone. Using the example from above... we're two founders, we gave ourselves   2500 shares each, so we each own 50%, and now we go to a VC and he   offers to give us a million dollars in exchange for 1/3rd of the   company. 1/3rd of the company is 2500 shares. So you make another 2500 shares   and give them to the VC. He owns 1/3rd and you each own 1/3rd. That's   all there is to it. What happens if not all the early employees need to take a salary? A lot of times you have one founder who has a little bit of money   saved up, so she decides to go without a salary for a while, while the   other founder, who needs the money, takes a salary. It is tempting   just to give the founder who went without pay more shares to make up   for it. The trouble is that you can never figure out the right amount   of shares to give. This is just going to cause conflicts. Don't   resolve these problems with shares. Instead, just keep a ledger of how   much you paid each of the founders, and if someone goes without   salary, give them an IOU. Later, when you have money, you'll pay them   back in cash. In a few years when the money comes rolling in, or even   after the first VC investment, you can pay back each founder so that   each founder has taken exactly the same amount of salary from the   company. Shouldn't I get more equity because it was my idea? No. Ideas are pretty much worthless. It is not worth the arguments it would cause to   pay someone in equity for an idea. If one of you had the idea but you   both quit your jobs and started working at the same time, you should   both get the same amount of equity. Working on the company is what   causes value, not thinking up some crazy invention in the shower. What if one of the founders doesn't work full time on the company? Then they're not a founder. In my book nobody who is not working full   time counts as a founder. Anyone who holds on to their day job gets a   salary or IOUs, but not equity. If they hang onto that day job until   the VC puts in funding and then comes to work for the company full   time, they didn't take nearly as much risk and they deserve to receive   equity along with the first layer of employees. What if someone contributes equipment or other valuable goods (patents, domain names, etc) to the company? Great. Pay for that in   cash or IOUs, not shares. Figure out the right price for that computer   they brought with them, or their clever word-processing patent, and   give them an IOU to be paid off when you're doing well. Trying to buy   things with equity at this early stage just creates inequality,   arguments, and unfairness. How much should the investors own vs. the founders and employees? That depends on market conditions. Realistically, if the investors end   up owning more than 50%, the founders are going to feel like   sharecroppers and lose motivation, so good investors don't get greedy   that way. If the company can bootstrap without investors, the founders   and employees might end up owning 100% of the company. Interestingly   enough, the pressure is pretty strong to keep things balanced between   investors and founders/employees; an old rule of thumb was that at IPO   time (when you had hired all the employees and raised as much money as   you were going to raise) the investors would have 50% and the   founders/employees would have 50%, but with hot Internet companies in   2011, investors may end up owning a lot less than 50%. Conclusion There is no one-size-fits-all solution to this problem, but anything   you can do to make it simple, transparent, straightforward, and,   above-all, fair, will make your company much more likely to be   successful. The above awesome answer came from the Stack Exchange beta site for startups, which has now closed. I expect that this equity distribution question (which is strongly tied to personal finance) will come up more times in the future so I have copied the content originally posted.  All credit for this excellent answer is due to Joel Spolsky, a moderator for the Startups SE beta site, and co-founder of Stack Exchange." "If you business is incorporated, it's up to the two of you how to do it. Typically, you will have the company write cheques (or make transfers, whatever) to each of the humans: If you want to say that each of you gets a salary of 80% of the revenue you bring in, and then tweak things with bonuses, you can. If one of you is contributing more to marketing and awareness and less to revenue, then you may prefer to pay you each the same even though the revenue you bring are different. It's up to you - it's quite literally your business. When you're not incorporated, then for tax purposes you split the income and the expenses according to your ownership share. If that doesn't seem fair to you, then a partnership is probably not as useful to you as being incorporated. In general, it's better to be incorporated once you're past any initial phase in which the business is losing money for tax purposes (acquiring depreciable assets) and the partners have taxable income from elsewhere (day jobs, or at least income from the earlier part of the year before starting the business.) I would recommend that the ""partnership"" phase of the business be very short. Get incorporated and get a shareholder agreement." "This is actually quite a complicated issue. I suggest you talk to a properly licensed tax adviser (EA/CPA licensed in your State). Legal advice (from an attorney licensed in your State) is also highly recommended. There are many issues at hand here. Income - both types of entities are pass-through, so ""earnings"" are taxed the same. However, for S-Corp there's a ""reasonable compensation"" requirement, so while B and C don't do any ""work"" they may be required to draw salary as executives/directors (if they act as such). Equity - for S-Corp you cannot have different classes of shares, all are the same. So you cannot have 2 partners contribute money and third to contribute nothing (work is compensated, you'll be getting salary) and all three have the same stake in the company. You can have that with an LLC. Expansion - S-Corp is limited to X shareholders, all of which have to be Americans. Once you get a foreign partner, or more than 100 partners - you automatically become C-Corp whether you want it or not. Investors - it would be very hard for you to find external investors if you're a LLC. There are many more things to consider. Do not make this decision lightly. Fixing things is usually much more expensive than doing them right at the first place." I mean some VCs focus on technology companies, that's a sector focus, but a very broad one. Are you saying you don't want to be limited to one sector?   Also keep in mind that series B investments are much more expensive then A rounds, just because there is more proof and less risk.   I know of some angel investors that invest by size rather than industry, maybe you could partner up with them. All depends on how much capital you have/ how much involvement you want to have with the company. "The issues are larger than taxes.  If one of you receives the check, then breaks off 25% of it for themselves and sends three checks out to each of you that will be indicated on that person's taxes.  You three will then all recognize your portion of the income on your taxes and it's all settled.  It's no big deal, it's a bit rag-tag but it'll get the job done.  I've done little ad-hoc partnership work with people this way and it's not a problem. This is why you should really be more formal.  What if this entity contracting you guys sues you?  Who has the liability, if only one of you was paid?  What if the money is sent to one of you and that person dies before paying you?  What if you all get another client?  What if this contracting entity has another project?   The partnership needs to have the liability.  The partnership needs to receive the money.  The partnership needs to be named on whatever contract you all sign.  The partnership can be a straight partnership, or maybe the four of you take a 25% stake in an LLC or Inc arrangement.  Minimally, you should sit down with your partners so everyone knows everyone else's responsibilities, and you should write it all down.  It probably sounds like overkill, and I'm sure your partners are you buddies and ""we're tight and nothing bad could come between us.""  I've done some partnership work with more than one friend, we've always been fine.  Some ventures are successful, some aren't; I'm still very good friends with all of them.  Writing things down manages expectations and when money starts moving around, everyone is happier when everyone has a solid expectation of who gets what." Does your wife perform solo or in association with other actor/actresses and other volunteers? The latter arrangement sounds more like an unincorporated association or a partnership, which might be a bit freer to match the revenue and expenses.  By grinding through the proper procedures, it might be possible to get official non-profit status for it, as well.   Ask a professional. what do you mean by abnormal amount of risk on day to day operations? and upfront ill more than likely need quite a bit of capital. as far as partnership I'd be the sole owner for now. unless I find a better option along the way. also thank you for all your help. These new block chain coins with their smart contracts seem to be heading in that direction but I'd like someone to walk me through how two or more people with varying amounts of contributions to the organization can keep it all organized.  One partner contributes money while the other contributes time and assets. How do you determine a value of each persons contribution?  Do you convert each persons contributions to shares or coins? I am a freelancer based in Europe and I want to tell you: - if you are a freelancer, then you INVOICE your Swizzerland based client The word salary is improper. - So your client will DEDUCE the invoice from its taxes, and NOT pay income tax on top of that invoice. Because invoice = expense.  So, ONLY YOU pay income tax in India. Your client pays no tax at all, not in India, not in Swizzerland. As you are a freelancer and not employee, the company has no obligation to pay employer taxes for you. A company  has financial benefits from working with a freelancer. Awesome ending.  You are forgiven for partying.    And the web start-up lifestyle comes with its own baggage.  Nothing like working long hours to implement some feature 1 customer hinted because any money is important money to crush that creative spirit. If you are in a position to have information that will impact the shares of a stock or index fund and you use that information for either personal gain or to mitigate the losses that you would have felt then it is insider trading.  Even if in the end your quiet period passes with little or no movement of the stocks in question.  It is the attempt to benefit from or the appearance of the attempt to benefit from inside information that creates the crime.  This is the reason for the quiet periods to attempt to shield the majority of the companies employees from the appearance of impropriety, as well as any actual improprieties. With an index you are running a double edged sword because anything that is likely to cause APPLE to drop 10% is likely to give a bump to Motorola, Google, and its competitors.  So you could end up in jail for Insider trading and lose your shirt on a poor decision to short a Tech  ETF on knowledge that will cause Apple to take a hit.  It is certainly going to be harder to find the trade but the SEC is good at looking around for activity that is inconsistent with normal trading patterns of individuals in a position to have knowledge with the type of market impact you are talking about.