Introduction
If you’re a California startup issuing stock options, your 409A valuation isn’t just a federal concern. The Franchise Tax Board (FTB) scrutinizes how discounts and FMV are reported for state tax purposes too.
In 2025, with more investors reviewing state-level footnotes and tax risks, understanding how CA treats 409A discounts can impact cap tables, option grants, and M&A exits.
IRC and California Tax Code References
- IRC §409A – Nonqualified deferred compensation and FMV standards
- IRC §83(b) – Election to include option income at grant
- Cal. R&TC §17041 & §17951 – California source income and conformity
- FTB Legal Ruling 2009-01 – Equity compensation and sourcing
- IRS Form 3921 / 3922 – Reporting ISO and ESPP transfers
What Is a 409A Valuation (Quick Recap)?
409A valuations are independent assessments of a private company’s fair market value (FMV) used to determine strike prices for stock options. It protects against IRS penalties for deferred compensation mismatches.
But in California, investors and acquirers look at whether FMV was defensible not only federally but also at the state level, especially when:
- A 409A discount looks too aggressive
- Option pricing defers CA income
- An 83(b) election impacts state taxable income
Example: 409A Discount Flagged in Due Diligence
Example: A Delaware C-Corp with its HQ in Palo Alto issues options at a 90% discount to its last preferred round FMV (based on an older 409A valuation).
During Series B, a new investor raises concerns:
- Is the FMV still current?
- Was it used to underreport taxable income for early California employees?
- Will the FTB view it as deferring state PIT (Personal Income Tax)?
This scrutiny may:
- Lead to repricing
- Trigger state audit exposure
- Delay deal closure or cap table cleanup
Step-by-Step: Staying Compliant in California (2025)
- Use Qualified 409A Providers
Avoid back-of-napkin FMVs. Use DCF or market comps that justify the discount. - Monitor 12-Month Shelf Life
In CA, using stale 409A values could expose you to PIT sourcing disputes. - Document Option Grants Carefully
Maintain grant date, board approval, and 409A certificates. - File IRS Form 3921 or 3922
For ISOs and ESPPs required reporting that CA often matches. - Review in M&A or Secondary Events
Revisit FMV and footnote treatment for every material equity event.
Conclusion
409A valuations are no longer a formality. For California founders, CFOs, and equity holders, your FMV strategy impacts state tax audits, investor confidence, and exit velocity.
Stay proactive. A $10K savings in FMV discount could cost you 10x in delayed funding or PIT assessments later.
Call to Action
Navigating 409A valuation risks in California?
Book a tax strategy session with Anshul Goyal, CPA, EA, FCA
He can help you:
- Align 409A with CA state sourcing rules
- Evaluate FMV discount defensibility
- Prepare audit-ready records for options and 83(b) elections
Don’t let 409A footnotes stall your growth:
https://calendly.com/anshulcpa/
Anshul Goyal, CPA, EA, FCA
Anshul brings 15+ years of U.S. and international tax experience. He specializes in helping online sellers, foreign founders, and U.S. residents with IRS and multi-state compliance. Known for his deep knowledge in Shopify and Amazon seller tax strategy, Anshul has helped hundreds of entrepreneurs minimize taxes and scale legally.
Disclaimer
This blog is for informational purposes only and does not constitute legal or tax advice. Please consult a qualified tax professional regarding your individual tax situation.
Top 5 High-Searched FAQs
1. Do California tax authorities recognize 409A valuations?
Yes, but they may review them for sourcing and FMV accuracy during audits.
2. How long is a 409A valuation valid?
Typically 12 months, unless a material event occurs sooner.
3. Can I be penalized for low option pricing in California?
Yes, especially if the FTB deems it as deferred income.
4. Is 83(b) election taxed differently in CA?
The same rules apply, but CA PIT may apply based on sourcing and timing.
5. Do investors care about 409A discounts?
Absolutely. Aggressive discounts may signal risk in M&A or fundraising rounds.