Equity, Wages, and Founders: What’s the Difference?
By: Owner & Attorney, Michael Jonas, JD, MBA
When you are building a company, especially in the early days, it is easy to get tripped up on how people are compensated. Money is tight, excitement is high, and the lines between “employee,” “contractor,” and “founder” can blur. But the law does not let you blur those lines just because it is convenient. Here is a breakdown:
Owners (The Default)
By default, if you own a company, you are entitled to ownership distributions (sometimes called profit distributions or draws). That is the baseline: you get a share of the profits because you own a piece of the company.
What you do not automatically get as an owner is a wage or guaranteed paycheck. If there are no profits, there is nothing to distribute.
Owners can also decide to “hire themselves” when the time is right. That means they can take on an official role as either:
An employee: receiving wages, withholding taxes, and following payroll rules
A contractor: getting paid via a contractor agreement, without payroll taxes withheld
Which one is right depends on the company’s stage, the level of involvement, and the legal or tax structure.
LLCs vs. Corporations: Membership Interests vs. Shares
Here is where the language gets tricky.
LLCs: Owners of an LLC are called members, and their equity comes in the form of membership interests. These interests represent a percentage of ownership and are often described in an Operating Agreement. When you give someone “equity” in an LLC, what you are really giving is a piece of that membership interest.
Corporations: In a corporation, owners are shareholders, and their equity comes in the form of shares of stock. Shares are more standardized and can be divided into classes (common vs. preferred). This is the structure most venture capital investors expect.
So while both are “equity,” the terminology and mechanics differ. An LLC hands out membership interests. A corporation issues shares. The law treats them differently in terms of taxation, governance, and paperwork, but both represent ownership in the business.
Employees
Employees must be paid wages. That means at least minimum wage, and overtime rules if they apply. You can absolutely give employees equity on top of their pay, but you cannot replace their pay with equity alone. If someone is doing the work of an employee, you need to treat them like one.
Contractors
Contractors can be paid however the contract says, whether cash, equity, or a mix. But here is the key: they must really be independent contractors under the law, not misclassified employees. If you are calling someone a contractor but managing their schedule, controlling how they work, and giving them day-to-day tasks like an employee, then they are not a contractor. They are an employee, and wages apply.
See our blog for a deeper dive on this topic: Hiring Help: What Oregon Small Businesses Need to Know About Employees vs. Contractors.
Co-Founders
Co-founders are a different story. They can receive equity for co-founding, advising, contributing skills, or simply because they are part of the founding team. Sometimes they get wages too, sometimes not, depending on what is agreed. What matters most is putting it in writing. A good founder’s agreement (or operating agreement, in the case of an LLC) is what separates a handshake from a real plan.
Why the Distinction Matters
The difference between “hiring someone and giving them equity” versus “naming them a founder and giving them equity” is not just semantics. It is about legal categories. A startup cannot just pick whichever label is easiest. Employment law, tax law, and corporate law all play a role here. Following the law correctly from the start protects both your business and your relationships.
Key Takeaways
Owners: Default is to get distributions, not wages. You can hire yourself later as an employee or contractor if appropriate
LLCs vs. Corporations: LLCs give membership interests. Corporations issue shares. Both are equity, just in different forms
Employees: Must receive wages. Equity can be added, but not substituted
Contractors: Can agree to equity, but only if they are truly independent
Co-founders: Can get equity simply for being founders, with or without pay, but contracts are critical
Startups often try to do the scrappy thing by redefining categories to save money, but that can backfire fast. The right way is to define roles clearly, document them properly, and honor wage and labor rules. Equity is a powerful tool, but it has to be used legally.
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