Startups rarely go exactly to plan. Founding teams can split up for many reasons. The risk grows when a large team forms quickly. It grows further when the founders have not really worked together before. However big or small your team is, a founder fallout can make or break the business. A founder vesting agreement is how startups manage that risk. This guide explains what a founder vesting agreement actually does. It also covers how a typical schedule works, and the key clauses every founding team should get right.
What Is a Founder Vesting Agreement?
A founder vesting agreement sets the rules for when a founder’s equity becomes fully theirs. Its main purpose is to stop a co-founder leaving early with a disproportionate share of the company.
In Australia, founder vesting is usually structured as reverse vesting. Each founder holds their full share allocation from day one. However, the company can buy back or cancel the unvested portion if that founder leaves before it vests.
This differs from forward vesting, where new shares are only issued to a founder as each tranche vests over time. Reverse vesting is more common for Australian founders. It keeps every founder a full shareholder and voting member from the start. It also avoids issuing new shares at each vesting milestone. If you want the detailed comparison between the two structures, our guide on reverse vesting for startups covers it in full. For a broader introduction to how vesting works generally, see our article on what vesting is and why it matters.
Why Startups Use Founder Vesting
Vesting reduces the impact of a co-founder leaving. It ensures they do not walk away with a disproportionate amount of equity. If a co-founder leaves during the vesting period, enough equity stays in the company. This properly incentivises the remaining founders and the wider team. This matters even more once you consider the company will likely need to hire a replacement. That new hire will usually want equity of their own too. Founder vesting protects founders and investors alike against the impact of a founder fallout.
How a Typical Vesting Schedule Works
Australian founder vesting schedules commonly run for two to four years. They often include a one-year cliff before any equity vests at all. After the cliff, the remaining equity typically vests monthly or quarterly on a straight-line basis. As an example, take a four-year straight-line schedule. A founder three years in will have 75% of their allocation vested. The remaining 25% stays at risk. The exact length and cliff period should reflect your specific business and founding team. Get advice on what fits your circumstances, rather than defaulting to a template.
Good Leaver and Bad Leaver Provisions
A vesting agreement should also deal with why a founder leaves, not just when. A “Good Leaver” is generally a founder who leaves for reasons like illness, injury, death, or redundancy. A good leaver usually keeps the equity that has already vested.
Some agreements also grant partial credit for equity close to its next vesting date. A “Bad Leaver” is a founder whose departure follows serious misconduct. This can include a criminal offence, fraud, or a material breach of their employment contract.
A bad leaver typically forfeits all unvested equity. The company can also often buy back their vested equity at a discount to fair market value. In some agreements, this discount runs as low as the original issue price. If a leaver dispute turns into a broader falling-out over ownership, two of our other guides can help. See our articles on founder equity disputes and resolving a dispute with your co-founders.
Vesting and Fundraising
Investors in early-stage rounds commonly ask founders to reset or extend their vesting schedule. This is usually a condition of the deal. Investors want the founding team locked into the business through the period where their commitment matters most. The length of any reset is genuinely negotiable. It can range from a short top-up to a fresh multi-year schedule. Some agreements give credit for time already served. This depends on each founder’s leverage, and how far along the vesting already is. It is less common for investors to push for a further reset in later funding rounds. Our guide on what investors focus on when funding early-stage ventures covers what else comes up during this stage.
Vesting and an Exit or Acquisition
On an acquisition, founders should generally share in the value they helped create. Many agreements provide for accelerated vesting. This is sometimes called single-trigger or double-trigger acceleration. It lets unvested equity vest immediately if a founder must leave the business as part of the deal. Some founders stay on after the acquisition instead. In that case, the new owners may want to keep them incentivised under a fresh vesting arrangement, rather than accelerating everything at once.
Getting the Agreement Right
A founder vesting agreement usually sits alongside your shareholders agreement. The two documents need to work together rather than conflict. It is also worth checking how vesting interacts with your tax position. Vesting conditions can affect whether shares carry a real risk of forfeiture under the employee share scheme rules. The Australian Taxation Office’s guidance on real risk of forfeiture explains how this affects when founders are actually taxed on their equity. Get this checked by a commercial lawyer and an accountant together, rather than relying on a generic template.
Frequently Asked Questions
1. What is a founder vesting agreement?
It is an agreement that sets out when a founder’s equity becomes fully theirs. It usually works through reverse vesting. The founder holds all their shares from day one, but unvested shares can be bought back or cancelled if they leave early.
2. How long does founder vesting usually last in Australia?
Most schedules run for two to four years, often with a one-year cliff before any equity vests. After the cliff, the rest typically vests monthly or quarterly.
3. What is the difference between a Good Leaver and a Bad Leaver?
A Good Leaver generally leaves for reasons like illness, injury, death, or redundancy, and usually keeps their vested equity. A Bad Leaver leaves after serious misconduct, such as fraud or a material breach of their contract, and typically forfeits unvested equity.
4. Can investors change a founder’s vesting schedule?
Yes. Investors in early-stage rounds often ask founders to reset or extend their vesting as a condition of the deal. The length of any reset is negotiable and depends on the circumstances.
5. Does a founder keep their equity if the company is acquired?
Often yes, through accelerated vesting. This lets unvested equity vest immediately if the founder must leave as part of the deal. If they are staying on, the new owners may prefer a fresh vesting arrangement instead.
6. Does founder vesting affect how equity is taxed?
It can. Vesting conditions affect whether shares carry a real risk of forfeiture under the employee share scheme rules. That affects when a founder is actually taxed on their equity, so get this checked by a lawyer and an accountant together.
Getting founder vesting right takes more than a standard clause dropped into a shareholders agreement. Our team at Allied Legal drafts founder vesting agreements tailored to your founding team, your industry, and your fundraising plans. We help you set the right schedule, and define good leaver and bad leaver terms clearly. We also help structure what happens on a future exit, and step in if a dispute over vested or unvested equity does arise. Contact us at 03 8691 3111 or email hello@alliedlegal.com.au to get your founder vesting agreement drafted or reviewed properly.
This article is provided for general information only and does not constitute legal advice. You should obtain legal advice specific to your circumstances before acting on any information contained in this article.
