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The short answer
A 409A valuation is a fair market value figure for a private company's common stock, used to set the exercise price of stock options. Under the Treasury regulations, an option escapes section 409A's deferred compensation rules only if its exercise price can never be less than the stock's fair market value on the grant date, so a startup needs a defensible valuation before it grants its first options and must keep it current.
Nigerian founders building US startups often offer options to early hires, including engineers in Lagos and advisers in London. The first option grant is the moment 409A stops being jargon. Get it wrong and the people you meant to reward can face a tax problem under section 409A of the Internal Revenue Code. Get it right and the issue rarely comes up again until the company raises money.
Why options need a 409A valuation
Section 409A governs deferred compensation. The regulation at 26 CFR 1.409A-1(b)(5)(i)(A) excludes a stock option from 409A deferral if three conditions hold:
- the exercise price can never be less than the fair market value of the underlying stock on the grant date, and the number of shares is fixed at grant;
- the transfer or exercise is taxed under section 83;
- the option has no further deferral feature beyond the normal deferral of income until exercise or disposition.
For a listed company, fair market value is the market price. A private startup has none, so it needs a value determined by "the reasonable application of a reasonable valuation method", in the regulation's words. A 409A valuation is that method, written down.
The three safe harbour methods
The regulation, at 1.409A-1(b)(5)(iv)(B)(2), names three methods presumed reasonable. The IRS can overturn the presumption only by showing the method or its use was grossly unreasonable.
| Method | Key conditions | Who typically uses it |
|---|---|---|
| Independent appraisal | Meets the standards in section 401(a)(28)(C); dated no more than 12 months before the grant | Most venture-backed startups, via a valuation firm |
| Formula valuation | A formula that is the value under a non-lapse restriction (Reg. 1.83-5), used consistently, including for transfers to the company and more-than-10% holders | Rare in startups |
| Illiquid start-up written valuation | No material trade or business for 10 years or more; no class of equity publicly traded; no put or call rights (except rights of first refusal and lapse restrictions); not applicable if a change in control is expected within 90 days or a public offering within 180 days; done by a qualified person, generally with at least five years of relevant experience | Very early companies valuing in-house with an experienced finance person |
When to get one
- Before the first option grant. If you have not granted options, you do not yet need one for option purposes. Once you plan to, value first, then grant.
- Within 12 months. An independent appraisal keeps its safe harbour only if it is dated no more than 12 months before the grant, so an annual refresh is the minimum for a company granting through the year.
- After a major event. A priced round, a large contract, a pivot or an acquisition offer can change the value. Most advisers refresh after such events, even inside the 12 months, because a valuation that ignores material information is hard to call reasonable.
- Not near an exit. The illiquid start-up presumption falls away if a change in control is reasonably expected within 90 days or a public offering within 180 days.
When it matters less
A company issuing founder shares at formation, with no options, does not need a 409A for those shares. Restricted stock bought at fair value raises different questions (section 83 elections) from options. A SAFE or convertible note does not itself require a 409A, though a priced round later will affect your next one.
Worked example
Example only. A Delaware startup with Nigerian founders closes a pre-seed SAFE round in March. In May it wants to grant options to two engineers in Lagos and one in Houston. It commissions an independent appraisal dated 1 May, which values common stock at $0.40 a share. Options granted on 15 May at an exercise price of $0.40 sit inside the safe harbour. If the company grants more options the following April, the appraisal is still under 12 months old, but if it closed a priced seed round in January at a much higher preferred price, it should refresh the valuation before granting.
Nigeria-based option holders
Section 409A is a US tax rule. Engineers resident in Nigeria are taxed under Nigerian law on their own position, and the timing and treatment of option income there differ. Keep the 409A for US compliance and the company's records, and see our guide to equity for Nigeria-based staff for the other side. If your team is moving from contractors to a local entity, read when to form a Nigerian subsidiary.
Where Pryme fits
The Finance agent can prepare a cap table and option schedule from your records for a person to check, and keep the 12-month refresh date in view. A Pryme Business Account pays Nigeria-based staff in naira and US staff in dollars from one place.
Questions people ask
Does an early startup need a 409A valuation?
Only once it grants stock options. The regulation excludes options from 409A only if the exercise price is never below fair market value at grant, so value before the first grant.
How long is a 409A valuation valid?
An independent appraisal keeps its safe harbour if it is dated no more than 12 months before the grant. Material events, such as a priced round, usually justify an earlier refresh.
Can founders do their own 409A?
The illiquid start-up method allows a written valuation by a qualified person, generally with five years of relevant experience, for companies under 10 years old with no expected exit within 90 or 180 days.
Does a SAFE need a 409A?
Not by itself. The 409A matters for option grants; a later priced round will affect the next valuation.
Sources
- eCFR: 26 CFR 1.409A-1, Definitions and covered plans · accessed Oct 2026
- IRS: 409A nonqualified deferred compensation plans · accessed Oct 2026
This article is general information, not financial, legal or tax advice. Products described are provided under the terms on this site and are subject to regulation and eligibility.