A 409A valuation (named for Section 409A of the Internal Revenue Code) is the official fair market value of a private company's common stock, determined by an independent third-party appraiser. It is the foundation of a startup's stock option program.
Why 409A valuations are required
When a startup grants stock options to employees, the IRS requires those options to be priced at or above fair market value to avoid being treated as deferred compensation. If options are granted below fair market value, they can trigger significant tax penalties for employees — including immediate income tax on the discount and a 20% additional penalty tax.
A valid 409A valuation protects both the company and employees from these consequences.
How 409A valuations work
An independent appraiser values the company's common stock using one or more of:
- Income approach — discounted cash flow based on projected revenue
- Market approach — comparable public companies or recent transactions
- Asset approach — useful for pre-revenue companies
Because preferred stock has liquidation preferences and other protections, common stock is always valued *lower* than preferred stock — typically 10–30% of the preferred stock price at early stages, converging toward 100% as the company matures.
When to get a 409A valuation
- Before granting any stock options
- After every priced funding round (Series A, B, etc.)
- After any material event that changes the company's value
- At least annually if no funding event has occurred
Cost and timeline
409A valuations from reputable firms cost $1,500–$5,000 and take 1–3 weeks. They are valid for 12 months (or until a material event). Most startup law firms can recommend approved providers.