Historically, private companies have issued shares to employees in exchange for notes receivable, primarily to start holding periods for tax purposes. Employee notes have also been issued for other reasons, such as relocations and house purchases. There are some key factors that companies need to consider regarding employee notes.
 
For notes issued for stock, the recourse or nonrecourse nature of the notes, both in legal substance and in form, needs to be evaluated to determine whether the transaction is substantive. Companies also need to consider Section 402 of Sarbanes-Oxley, which prohibits publicly traded companies from providing personal loans to directors and executive officers. This prohibition on executive loans at public companies has also led to an overall decrease in the frequency of loans being issued to employees in private companies.
 
Companies with existing loans or considering entering into new loans to employees should work with appropriate legal counsel to determine which loan arrangements are prohibited and take appropriate corrective actions prior to the public offering. This corrective action may require executives to repay loans prior to the IPO and the original contractual maturity, so advance planning is essential.