Also known as
Phantom equity, phantom stock, Equity Value Ownership Plan (EVOP), or value participation plan.
Suitable for
Synthetic Equity is well suited to owners who want to share the upside of the business with employees but aren't comfortable, legally, emotionally, or structurally, with bringing employees onto the share register. It works for companies where financial disclosure to employee-shareholders would be problematic, or where the corporate structure makes issuing actual shares complicated.
It can also serve as a stepping stone: some owners use a Synthetic Equity plan to build an ownership culture first, then convert units to real shares down the road once both parties are ready.
What's in it for employees
Employees participate in value growth and may receive distributions that mirror dividends. RSUs and DSUs can provide meaningful compensation tied to company performance. And in some structures, employees may be able to ultimately convert their units into real equity, potentially on a tax-advantaged basis.
Challenges
The tax treatment is less favourable than real share ownership. When employees redeem their units, the proceeds are generally taxed as employment income rather than as capital gains, which means they can't access the LCGE. That's a meaningful difference when it comes to after-tax outcomes. For the company, payouts to employees may potentially be expensed like a bonus and the organization can deduct them on their tax.
These plans also require careful drafting. A Unitholders' Agreement needs to define every trigger event, death, disability, termination, retirement, and assign a clear valuation mechanism to each. Getting that wrong creates conflicts that are very difficult to unwind.