Pricing a Partner or Key-Employee Buy-In

Abstract

1. Introduction

The instinct in a closely held company is to price a key-employee buy-in by feel: a round number, a multiple of salary, a figure both sides can live with. The instinct is understandable and it produces a taxable event neither party intended.

Two facts compound to make the intuitive number wrong. A minority stake in a private company is worth materially less than its proportionate share of the whole, so a price set at the pro-rata figure overpays for what the buyer actually receives. And because the buyer is an employee acquiring equity in connection with services, the Internal Revenue Code does not treat the transaction as an ordinary purchase; it measures the price against fair market value and taxes any shortfall as ordinary compensation income (Internal Revenue Code 2026a). The number therefore has to be defensible rather than agreeable, and the same analysis that produces a fair price also sizes the employee's tax.

The correct way to see the engagement is as a descent through defined levels of value. The appraiser establishes the operating value of the business at the control level, takes the buyer's proportionate share, and then reduces that share to reflect what the buyer is actually acquiring: a noncontrolling, nonmarketable interest. The two reductions are the discount for lack of control and the discount for lack of marketability. Each is grounded in empirical study and in professional standards rather than in the parties' preferences, and each has to be supported well enough to survive review by a co-owner, by the Internal Revenue Service, or by a court.

Three features make the aviation setting distinct. Neither the Part 135 air carrier certificate nor the Part 145 repair station certificate transfers with a sale of assets, so value in these businesses moves only with the equity of the certificate-holding entity. No private transaction benchmark specific to charter operators or repair stations is published, so the market approach in a small aviation engagement is a sanity check rather than a source of comparables. And a buy-in that crosses a reporting threshold or places the buyer in a required management position triggers obligations to the Federal Aviation Administration that a purely tax-driven structure will not anticipate. Sections 2, 3 and 11 take those in turn.

Sections 4 through 6 develop the discounts and the arithmetic of applying them in sequence. Sections 7 through 10 set out the standard of value, the Section 83 overlay, the entity-form constraint, and the buy-sell terms that govern whether the second and third buy-ins are priced consistently with the first. The intended readers are valuation analysts, the owners and advisors on either side of a buy-in, and counsel drafting the agreement that will govern it.

2. Establishing Operating Value

Every discount in this paper is a percentage of something, and that something is the operating value of the business at the control level. An error in the base is not rescued by precision in the discounts. For an aviation services company the base is developed as it would be for any operating business, through the income, market and asset approaches, but the value drivers and the risks that shape the multiple are particular to the sector.

2.1 Charter and aircraft management under Part 135

An on-demand charter or aircraft management company is valued principally as a going concern on its earnings, usually a multiple of earnings before interest, taxes, depreciation and amortization, or of that figure before rent where aircraft are leased, so that operators with different fleet ownership models can be compared on the same basis.

What moves a charter operator away from the middle of any benchmark range is a short list of sector-specific factors. Fleet structure matters first. An asset-light management model that flies owners' aircraft under management agreements behaves like a service business, while an owned or long-term-leased fleet adds asset value together with capital intensity and residual value risk. Utilization, measured in block hours and revenue per aircraft, drives margin. Two concentration risks are chronic and depress value directly: customer concentration, where a small number of accounts or a single fractional program carries the revenue, and key-person concentration, where the chief pilot, director of operations, or director of maintenance embodies relationships and approvals that would be difficult to replace.

Both have support outside the valuation trade press. Patatoukas (2012) documents that customer-base concentration affects supplier-firm performance and how capital markets price it, which is the empirical footing for treating concentration as a risk attribute rather than a rhetorical one. On key-person dependence, Nielsen (2024) collects the Tax Court practice of allowing enterprise-level key-person discounts and notes that dependence arises through revenue generation, customer relationships, supplier relations, employee development, or strategic vision. The fact that the company is offering equity to a key employee is itself evidence that the dependence is real, and the appraiser should reflect it in the base value before any minority discount is layered on top.

2.2 Maintenance, repair and overhaul under Part 145

A repair station is valued on similar principles, with the asset value of tooling and facilities carrying more weight. The value drivers are the repair station certificate and its specific ratings, any original equipment manufacturer authorizations, specialized tooling, the hangar and facility, the order backlog, the certificated technician workforce whose scarcity is both an asset and a retention risk, and aircraft-on-ground capability, which commands premium margins. As with charter, workforce and certification concentration are the recurring risks, which is again why the person being offered equity is frequently the person holding those approvals together.

2.3 The certificate does not transfer with the assets

One regulatory fact governs both sectors and shapes the buy-in directly. The Federal Aviation Administration's repair station rule is explicit: "If the holder of a repair station certificate sells or transfers its assets and the new owner chooses to operate as a repair station, the new owner must apply for an amended or new certificate" under the ordinary application procedure (Code of Federal Regulations 2026a). A Part 135 air carrier certificate is likewise not an asset a company can sell on its own. No person may operate as a direct air carrier or commercial operator without an appropriate certificate and operations specifications issued to that person (Code of Federal Regulations 2026b), an original applicant must file at least 90 days before intended operation (Code of Federal Regulations 2026c), and the only mechanism available on a change of ownership is amendment of the existing holder's certificate, which requires the responsible Flight Standards office to find that safety in air commerce and the public interest allow it (Code of Federal Regulations 2026d). Goldberg (2023) describes the resulting practice: certificates "can be purchased from third parties, even though the FAA regulations do not allow for certificates to be sold," because a buyer can acquire the entity that holds the certificate and seek an amendment reflecting the new ownership structure.

The valuation consequence is direct. Value in these businesses is captured by acquiring equity in the certificate-holding entity rather than its assets, because an asset sale forfeits the certificate and forces a recertification measured in months. That is why a buy-in is almost always a purchase of equity in the operating company itself, and why the certificate, the operations specifications and the approvals are part of the going-concern value the appraiser is dividing. It also means the certificate is not a separately saleable intangible that can be carved out and valued on its own.

2.4 The absence of a private transaction benchmark

Practitioners reach for published multiples to sanity-check an income approach, and in this sector the available figures deserve more scepticism than they usually receive. The public aerospace aftermarket trades at multiples that have no bearing on a small repair station: a median enterprise value to earnings before interest, taxes, depreciation and amortization of 15.4 times and a mean of 20.1 times across five listed maintenance companies as of mid-2024 (Objective Capital Partners 2024). At the other end, figures circulated for private aviation by content marketing firms, such as 6.2 times at one to three million dollars of earnings rising to 12.1 times at the fifteen-million-dollar level (First Page Sage 2025), carry no disclosed sample, date range, or definition of the subsector, and should not be relied upon.

The defensible cross-check comes from measured private transaction data at the sector level, and it has to be taken at the right size. Two sources matter.

The DealStats Value Index reports median selling price to EBITDA for private targets by sector. For NAICS 48 to 49, transportation and warehousing, which contains both nonscheduled chartered passenger air transportation and other support activities for air transportation, the median ran between 3.0 and 4.6 times across the ten years to 2024, reaching 4.6 times in 2024 (Business Valuation Resources 2025). The median across all industry sectors for all periods in the same index is 4.1 times.

Size matters at least as much as sector. The IBBA and M&A Source Market Pulse survey reports average multiples by enterprise value band: 2.0 times below $500,000, 3.1 times at $1 to $2 million, 4.1 times at $2 to $5 million, and 5.5 times at $5 to $50 million in the fourth quarter of 2025 (International Business Brokers Association 2026). The worked example in Section 12 is a $12 million control value, which sits in the last of those bands.

The practical consequence is worth stating because it cuts against a number that circulates widely. Broad middle-market indices reporting enterprise value to EBITDA near ten times are measuring a different population than a small charter operator or repair station. A cross-check drawn from those indices will validate a value that the transaction evidence for this sector and this size will not support. The band to work in is roughly three to five and a half times, not nine to ten.

One earlier claim in this paper needs softening in light of that. It is not true that no sector-labelled private transaction data exists; it exists and is coded to NAICS at the individual target level. What does not exist is a free, published benchmark with a disclosed sample specific to Part 135 charter or Part 145 repair stations. No charter-specific or repair-station-specific private transaction benchmark of that kind was located in the public literature for this paper. An appraiser should say so in the report rather than presenting a sector-labelled number of unknown provenance as a comparable.

Table 1. Aviation operating-value drivers and certificate transferability

Source: 14 CFR 119.41, 119.5(g) and 145.57(b); Goldberg (2023); Objective Capital Partners (2024); Capstone Partners (2026).

3. The Levels of Value

With the control-level operating value established, the appraiser moves down a defined ladder. The American Society of Appraisers requires a business valuation report to state "the level of value (e.g., strategic control, financial control, marketable minority, or nonmarketable minority) in the context of the standard of value, the premise of value, and the relevant characteristics of the interest" (American Society of Appraisers 2022). The American Institute of Certified Public Accountants and the National Association of Certified Valuators and Analysts impose parallel requirements to identify the ownership characteristics that drive the conclusion (American Institute of Certified Public Accountants 2007; National Association of Certified Valuators and Analysts 2023), and the Uniform Standards of Professional Appraisal Practice govern the development and reporting of a business appraisal at Standards 9 and 10 (The Appraisal Foundation 2024).

The four levels are conventionally drawn as a ladder, and the framework and the bridges between its rungs are developed at length by Mercer and Harms (2021). At the top sit the control levels, split between a strategic control value that includes buyer-specific synergies and a financial control value that does not. Below them is the marketable minority level, the value a small interest would carry if it traded freely like a public share. At the bottom, and this is where a key-employee stake almost always lands, is the nonmarketable minority level: a small interest in a company whose shares do not trade at all.

The distance between the control level and the nonmarketable minority level is bridged by the two discounts that are the subject of the next two sections. The discount for lack of control carries value from the financial control level down to the marketable minority level, reflecting that the holder cannot direct the enterprise. The discount for lack of marketability carries it further down to the nonmarketable minority level, reflecting that the holder cannot readily sell. A position below 50 percent is generally a noncontrolling interest, though the percentage alone is not dispositive; governance terms, voting arrangements, and swing-vote dynamics can raise or lower the degree of control a particular block carries. The analyst's task is to identify where on the ladder the specific stake belongs and to size each step down with support (American Society of Appraisers 2022, BVS-VII).

Table 2. The levels of value and the adjustments that bridge them

Source: American Society of Appraisers, Business Valuation Standards (2022), BVS-I sec. II.B.11; Mercer and Harms (2021).

4. The Discount for Lack of Control

A minority owner cannot do the things that make control valuable. Control confers the ability to set strategy and compensation, declare distributions, hire and dismiss, enter or block a sale of the company, and choose the timing of a liquidity event. A holder of 10 or 20 percent of a charter company has none of those powers; the holder receives distributions if and when the controlling owner declares them and exits when the controlling owner permits. The discount for lack of control measures the value the buyer forgoes by not holding those prerogatives.

Its magnitude is derived from market evidence rather than asserted. The conventional derivation works from control premium studies, which observe how much more an acquirer pays for control of a public company than the pre-announcement trading price, and inverts the premium: the implied minority discount is one minus the reciprocal of one plus the premium, so a 34.4 percent premium implies a 25.6 percent discount. One caution disciplines that arithmetic. Acquisition premiums frequently include buyer-specific synergies that a financial minority buyer would never realize, so the analyst should work from financial rather than strategic control evidence, or the discount will be overstated.

The academic literature on the private benefits of control suggests the caution is substantial in a United States setting. Barclay and Holderness (1989), examining 63 negotiated trades of blocks of at least 5 percent on the New York and American exchanges between 1978 and 1982, found blocks priced at an average premium of 20 percent and a median of 16 percent over the post-announcement exchange price, which corresponds to roughly 4 percent of total firm equity value. Dyck and Zingales (2004), studying 393 control block transactions across 39 countries, estimated the average worldwide value of control at 14 percent of equity value but the United States figure at 1.8 percent unadjusted and 3.5 percent after adjusting for differences in security benefits between buyer and seller. Nenova (2003), reaching the question through dual-class share pricing in 18 countries rather than through block trades, put the United States value of control at approximately 2 percent of firm market value.

Those figures do not establish the correct discount for a closely held aviation company, where the controlling owner's prerogatives over compensation, distributions and exit are far more consequential than in a listed firm with dispersed holders and an independent board. What they establish is that a large control premium is not a neutral default, and that an analyst who takes a headline acquisition premium and inverts it is measuring synergies rather than control. The governance terms of the specific company, not a published average, decide the size of the step.

5. The Discount for Lack of Marketability

Even a controlling interest in a private company is harder to sell than a public share, and a minority interest is harder still. The discount for lack of marketability captures the reduction in value attributable to the absence of a ready market, the time and cost of finding a buyer, and the risk borne while illiquid. For a minority stake in a closely held aviation company governed by a restrictive buy-sell agreement, it is normally the larger of the two discounts. One setting compresses it sharply and is worth distinguishing at the outset: where the interest is held through an employee stock ownership plan, the statutory put option gives the holder an assured exit that an ordinary private minority interest lacks, and published practice reports discounts in the range of 5 to 10 percent as a result (Carter 2026b).

5.1 What the studies show, and what the compiler of them says

The empirical foundation comes from two families of study. Restricted-stock studies compare the price of otherwise identical public shares carrying a temporary resale restriction against their freely traded counterparts. The early generation clustered in the mid-30s: Moroney (1973) reported an average of 35.6 percent on restricted stock purchases between 1969 and 1972, Maher (1976) an average of 35.4 percent on mutual fund purchases of restricted stock between 1969 and 1973 with a range from 3 to 76 percent, and Silber (1991) an average near 34 percent across 69 private placements between 1981 and 1988, with the discount rising as the restricted block grew relative to shares outstanding and falling with issuer size, revenues and earnings.

Two further results sit inside the same study the paper relies on for its holding-period medians, and both are more useful to a private-company analyst than the medians are.

The first is registration rights. Across the full study the median discount for the 380 transactions carrying registration rights is 12.9 percent, against 20.0 percent for the 254 transactions without them (Stout 2025, exh. 10). A private company interest has no registration rights and no prospect of acquiring any, so it resembles the second subsample rather than the pooled median. An analyst reading the headline 15.7 percent median across all transactions is reading a figure diluted by a feature the subject does not have.

The second is sector. The same study breaks out results by SIC range, and the 4000 to 4999 band, which contains air transportation and airport services, carries 45 transactions at a median discount of 16.4 percent (ibid., exh. 6). That is thin, and a 45-transaction median across a band that also holds utilities and communications is not an aviation figure. It is nonetheless the closest sector-labelled marketability evidence available in any disclosed-sample study, and it is worth reporting rather than asserting that none exists.

Pre-initial-public-offering studies compare private transaction prices to the later offering price and show larger figures. The nine Emory studies reviewed 4,088 prospectuses between 1980 and 2000, identified 346 qualifying transactions, and reported a mean discount of 46 percent and a median of 45 percent (Emory, Dengel, and Emory 2002).

The convention built on this literature is to anchor near 35 percent and adjust. A compilation prepared within the Internal Revenue Service sets out fourteen rows drawn from twelve lettered restricted-stock studies, reports a mean of 31.4 percent and a median of 33 percent, and records the convention accurately: "many analysts use a discount of about 35% or attach a subjective premium to the average discount." It then argues against it.

One thing about that document has to be said before it is used further, because the paper relies on it repeatedly. Every page carries the notice that it "is not Official IRS position and was prepared for reference purposes only; it may not be used or cited as authority for setting any legal position" (Internal Revenue Service 2009). It is a training aid for agency valuation staff, not a ruling, and nothing in it binds the Service or a taxpayer. That makes the document weaker as authority and stronger as evidence for the argument here. A compilation written to help examiners scrutinise marketability discounts, which itself declines to endorse the 35 percent convention, is a better witness against the convention than a pronouncement would be.

The measures of central tendency across those studies, the compilation notes, imply discounts ranging "from a low of 13% to somewhere in the vicinity of the mid-40% decile," a range wide enough to indicate far wider dispersion among the underlying data points, and most of the studies rest on fewer than 100 observations. The document lists reliance on averages of restricted-stock studies among the weaknesses it is written to correct. An analyst who cites the job aid for a 35 percent anchor is citing a document that exists to discourage the practice.

The methodological challenge is sharper still. Bajaj, Denis, Ferris, and Sarin (2001) examined 88 private equity placements between 1990 and 1995 and argued that observed restricted-stock discounts conflate illiquidity with block size, business risk, financial distress, information asymmetry, and compensation to placement investors for monitoring. Their evidence is that registered private placements, immediately saleable, still transact at discounts averaging 14.04 percent, so the whole of the observed discount cannot be marketability. Isolating registration status in a cross-sectional regression produced a coefficient of 7.23 percent, which they offered as a refined estimate of the marketability effect alone.

5.2 The holding-period problem

The restricted-stock evidence is not a fixed benchmark, because the restriction it measures has been shortened twice. The Securities and Exchange Commission cut the Rule 144 holding period from two years to one effective 29 April 1997 (Securities and Exchange Commission 1997), and from one year to six months for securities of reporting issuers effective 15 February 2008 (Securities and Exchange Commission 2007). Observed discounts fell with each change. Columbia Financial Advisors measured a mean of 21 percent for transactions between January 1996 and April 1997 under the two-year regime against 13 percent for transactions between May 1997 and December 1998 under the one-year regime (Aschwald 2000). The Stout Restricted Stock Study, covering transactions through March 2025, reports overall median discounts of 22.1 percent across 243 two-year transactions, 15.7 percent across 342 one-year transactions, and 11.7 percent across 198 six-month transactions (Stout Risius Ross 2025).

The six-month regime applies only to reporting issuers. A privately held aviation services company is not a reporting issuer and never qualified for it. Using post-2008 restricted-stock medians as a benchmark for a private-company interest therefore compares an eleven-percent discount earned over six months against an interest with no defined holding period at all. The Internal Revenue Service (2009) states the requirement plainly: the expected holding period of the subject interest must be compared to the holding period of the study being used. For a key-employee stake in a closely held operator, the expected holding period is open-ended and defined by the buy-sell agreement rather than by a regulation, which argues for the older regimes and against the recent medians.

That argument has to be made against a peer-reviewed result that contradicts it, because the result exists and a reader who finds it later will reasonably ask why it was not addressed. McConaughy, Hussein, and Dow (2019) analyse 416 restricted stock transactions from 1996 to 2013 and find issuer size, volatility, block size, price to revenue and EBITDA margin significantly related to the discount, while reporting that they do not find registration rights or the initial holding period to be statistically significantly related to it. On their evidence the holding period is not the variable this section treats as central.

Three things can be said in response, and none of them is that the study is wrong. Their sample spans 1996 to 2013 and therefore straddles both rule changes, so the holding-period variable is partly collinear with time and with the market conditions of each period. Their finding concerns variation within a population of registered-issuer placements, all of which have a defined and short holding period, rather than variation between that population and a private interest with no defined holding period at all; the second comparison is the one this section is about and their design does not test it. And the measured difference between the registration-rights subsamples in the Stout data, 12.9 against 20.0 percent, is a large one that a null result on a different specification does not dissolve.

What their result does establish is that the holding period is not doing as much work as practitioners commonly assume, and that issuer size and volatility are doing more. An analyst selecting a study for a small, closely held operator should therefore match on those characteristics at least as carefully as on the regime, and should not treat a regime adjustment as the whole of the bridge to the subject.

5.3 Option-pricing models as a second route

Because the study evidence is contested, a second family of methods values the illiquidity directly as the cost of an option to sell. Chaffe (1993) treated the cost of a European put over the expected holding period, divided by the market price, as the discount, producing 28 to 41 percent for a two-year period at volatilities of 60 to 90 percent and 32 to 49 percent at four years, and regarded his own results as a floor. Longstaff (1995) derived an analytical upper bound by valuing a lookback put held by an investor with perfect market timing, a construction that yields very large figures and is properly read as a ceiling rather than an estimate. Finnerty (2012) assumed no timing ability and produced an average-strike put model whose revised form caps the discount at 32.3 percent regardless of volatility, and Ghaidarov (2009) developed a protective-put formulation for common and preferred interests. Read together the models bracket the answer: a floor from Chaffe, a ceiling from Longstaff, and interior estimates from Finnerty and Ghaidarov. That bracketing is more defensible in a report than a single figure drawn from a study average.

5.4 Bridging to the subject with the Mandelbaum factors

Whatever range the analyst starts from, the bridge to the specific interest is the set of factors the Tax Court identified in Mandelbaum v. Commissioner (1995), which the Internal Revenue Service (2009) adopts. The court described the list as nonexclusive and applied it to conclude a 30 percent discount, adopting the Commissioner's figure against the taxpayers' 70 to 75 percent.

Table 3. The Mandelbaum factors and where a key-employee buy-in typically falls

Source: Mandelbaum v. Commissioner, T.C. Memo. 1995-255; Internal Revenue Service (2009).

Factors 7, 8 and 9 are where most owners are surprised, because all three are set by the same document. A buy-sell agreement drafted to protect the company by restricting transfer also, as a matter of valuation logic, enlarges the marketability discount on every minority stake it governs, which lowers the price at which those stakes should change hands. The agreement is not neutral to the valuation; it is an input to it.

A final caution on the study families. In McCord v. Commissioner (2003) the Tax Court, in a Court-reviewed opinion, accepted Bajaj's critique and rejected an expert opinion to the extent it rested on the pre-initial-public-offering approach, adopting 20 percent as the marketability discount, rounded from the 20.36 percent middle tercile of Bajaj's own data. The Fifth Circuit later reversed the judgment on valuation-date and defined-value grounds without disturbing that methodological holding (Succession of McCord v. Commissioner 2006). Five years later, in Bergquist v. Commissioner (2008), the same court adopted a 45 percent discount built in part on pre-offering studies, because the taxpayers had not identified flaws in the expert's analysis or in the studies relied upon. The two decisions are in tension, and the practical lesson is procedural rather than doctrinal: an unrebutted study survives, and a contested one may not, so the report must develop the specific facts of the subject rather than lean on the literature.

6. Stacking the Discounts

The two discounts do not add. They compound, because the marketability discount applies to a value already reduced for lack of control. A 30 percent control discount followed by a 20 percent marketability discount produces a 44 percent reduction rather than a 50 percent one, computed as one minus the product of the two surviving fractions. The order of operations is the descent through the levels of value: start from control equity value, take the buyer's pro-rata share, apply the control discount to reach the marketable minority level, then apply the marketability discount to reach the nonmarketable minority level.

Consider a charter company whose control-level equity value is appraised at $12,000,000, offering a general manager a 10 percent stake. The mechanics run as follows.

Table 4. Illustrative buy-in price for a 10 percent stake, control equity value $12,000,000

Source: Author's calculation. Discount percentages are chosen to demonstrate the arithmetic and must be developed for the specific interest.

The concluded value of $672,000 sits $528,000 below the $1,200,000 pro-rata figure, and that gap is what the analysis exists to measure. It is the difference between what the stake is proportionately worth and what it is worth to a buyer who can neither control nor readily sell it. As Section 8 explains, it is also the number that determines the employee's tax, which is why the discounts have to be defensible rather than convenient.

7. Which Standard of Value Applies

The discounts above belong to a specific standard of value: fair market value, the price a hypothetical willing buyer and willing seller would agree on, as elaborated for closely held stock in Revenue Ruling 59-60 (Internal Revenue Service 1959). That is the correct standard for a buy-in priced as an arm's-length transaction and for the tax analysis that follows, and under it the control and marketability adjustments are required rather than merely permitted, because they reflect the nature of the interest being valued. The report should state the standard explicitly, because a different standard changes the answer.

The standard that collides with a buy-in is statutory fair value, which governs dissenting-shareholder and oppressed-minority proceedings. The majority rule is that neither discount applies at the shareholder level. Delaware set the pattern: the Court of Chancery "is not required to apply further weighting factors at the shareholder level, such as discounts to minority shares for asserted lack of marketability," because shareholder-level discounts conflict with the going-concern premise, impose a penalty for lack of control, and unfairly enrich the majority (Cavalier Oil Corp. v. Harnett 1989). Colorado reached the same conclusion and surveyed the field, counting fifteen states that had held a marketability discount should not apply against six that had clearly concluded fair value may include one, with further states having adopted the 1999 Model Business Corporation Act amendments barring such discounts (Pueblo Bancorporation v. Lindoe, Inc. 2003). Moll (2004) sets out the academic case for the enterprise-value reading.

The minority rule survives and is not a dead letter. New York separates the two discounts: a minority discount is impermissible under the business corporation law because it would deprive minority shareholders of their proportionate interest in a going concern, but a marketability discount is permitted provided it reflects illiquidity alone and does not reintroduce minority status (Friedman v. Beway Realty Corp. 1995).

The practical consequence for an owner is that the same 10 percent stake carries two different values depending on why it is being valued: a discounted fair-market-value figure when an employee buys in voluntarily, and a higher, often undiscounted fair-value figure if that employee later leaves and litigates. The asymmetry between the entry price and the exit price is the planning point that most often goes unaddressed at drafting, and it is jurisdiction-dependent. A buy-sell agreement that fixes the standard of value and the discount treatment in advance is the cleanest way to keep the two from being confused.

8. The Section 83 Overlay

8.1 The bargain element

Because the buyer is an employee acquiring equity in connection with services, the transaction is not taxed as an ordinary purchase. Section 83(a) of the Internal Revenue Code includes in the service provider's gross income "the excess of the fair market value of such property (determined without regard to any restriction other than a restriction which by its terms will never lapse) ... over the amount (if any) paid for such property," measured at the first time the rights are transferable or not subject to a substantial risk of forfeiture (Internal Revenue Code 2026a).

That provision is the hinge connecting the valuation to the tax. The fair market value against which the price is measured is the discounted, nonmarketable minority value the analyst concluded, so a well-supported discount does double duty: it lowers both the fair price and the taxable bargain element. In the worked example, an employee who pays the concluded $672,000 recognizes no compensation income. An employee permitted to pay $500,000 for the same stake recognizes $172,000 of ordinary income, because the equity was worth $672,000.

8.2 The Section 83(b) election

Where the equity is subject to vesting or another substantial risk of forfeiture, the employee may elect under Section 83(b) to be taxed on the spread at grant rather than at vesting, fixing the compensation income at today's value, starting the capital gains holding period, and converting future appreciation to capital gain (Internal Revenue Code 2026a; Treasury Regulations 2026a). Three mechanics matter. The election must be made within 30 days of the transfer, and because that deadline is statutory rather than regulatory, the discretionary extension relief available for regulatory elections does not reach it (Treasury Regulations, 26 C.F.R. 301.9100-1(b) and 301.9100-3). The election may be made on Internal Revenue Service Form 15620 or by a written statement satisfying the regulation, the form being an alternative rather than a requirement. Since July 2025 the form may also be filed electronically through the taxpayer’s online account, which returns a confirmation of receipt (Internal Revenue Service 2025). That is worth using. The evidentiary problem with a mailed election has always been proving it was filed on time, and a dated electronic acknowledgement removes it. And if the property is later forfeited, Section 83(b) denies any deduction in respect of the forfeiture, and the regulation limits the resulting loss to the amount paid less the amount realized, so the income already recognized is not recovered (Treasury Regulations 2026a). The election is a considered choice, not a reflex.

8.3 Non-lapse restrictions and the formula price

Section 83(d)(1) provides that where property is subject to a restriction which by its terms will never lapse and which allows the transferee to sell only at a price determined under a formula, "the price so determined shall be deemed to be the fair market value of the property unless established to the contrary by the Secretary, and the burden of proof shall be on the Secretary" (Internal Revenue Code 2026a). The regulation adds that a formula price based on book value, a reasonable multiple of earnings, or a reasonable combination of the two "will ordinarily be regarded as determinative of the fair market value" (Treasury Regulations 2026b).

Three qualifications keep this from being the shortcut it appears to be. The presumption is rebuttable, and the regulation itself gives an example in which a current book value formula is displaced by a better measure of value. The restriction must be genuinely non-lapse, meaning permanent and binding on transferees as the regulation defines the term (Treasury Regulations 2026c); a buy-sell that terminates on an initial public offering, a sale of the company, or the holder's retirement is a lapse restriction and receives no formula-price protection at all. And cancellation of a non-lapse restriction is itself a compensation event under Section 83(d)(2).

There is a fourth qualification, and it reaches the arrangement most advisors reach for first. The regulation provides that "[a]n obligation to resell or to offer to sell property transferred in connection with the performance of services at its fair market value at the time of such sale is not a nonlapse restriction" (Treasury Regulations, 26 C.F.R. 1.83-3(h)). A buy-sell that repurchases at appraised fair market value therefore gets no Section 83(d)(1) presumption at all. This matters to the recommendation in Section 10, which favours a valuation mechanism over a fixed formula for other and good reasons: the choice buys defensibility of the price and gives up the burden-shifting the formula route provides. Both cannot be had, and the trade should be made knowingly rather than discovered afterwards.

A formula price is therefore a planning tool with conditions rather than a substitute for an appraisal, and an appraised-value buy-sell is a defensibility tool that forfeits a statutory presumption.

9. Entity Form and the Available Structures

Entity form determines how much of the Section 83 problem exists at all. In a limited liability company or partnership the owner can grant a profits interest, an interest in future profits and appreciation with no claim on existing capital, receipt of which the Internal Revenue Service will not treat as a taxable event where the recipient provides services to or for the benefit of the partnership in a partner capacity (Internal Revenue Service 1993). Where the interest is substantially nonvested, the determination is made at grant rather than at vesting provided the partnership and the service provider treat the provider as a partner from grant, neither deducts any amount on grant or vesting, and the other conditions are met; a taxpayer within that guidance "need not file an election under section 83(b)" (Internal Revenue Service 2001). Requiring the employee to buy a capital interest instead triggers Section 83 on any below-value element.

That guidance has been unsettled for two decades without being displaced. The Treasury proposed regulations on partnership equity for services in 2005, together with a proposed revenue procedure that would obsolete the two rulings on finalization (Internal Revenue Service 2005a; Internal Revenue Service 2005b). Neither has been finalized or withdrawn, and the notice states that until finalization "taxpayers may continue to rely upon current law," including both revenue procedures. That remains the position in September 2026.

An S corporation cannot offer the same flexibility. It may not have more than 100 shareholders, may not have an ineligible shareholder or a nonresident alien shareholder, and may not have more than one class of stock (Internal Revenue Code 2026b). The single-class rule forbids the preferred returns and disproportionate distributions a profits interest implies. The rule is narrower than it is often described, though, and the narrowness is useful here. Differences in voting rights are disregarded, so non-voting stock does not create a second class, and buy-sell agreements, transfer restrictions and redemption agreements are disregarded unless a principal purpose of the agreement is to circumvent the one-class requirement and the agreement sets a price significantly above or below fair market value; the two conditions are conjunctive. Agreements providing for purchase or redemption at book value, or at a price between book value and fair market value, are expressly treated as not significantly off market. Separately, bona fide agreements to redeem or purchase stock at death, divorce, disability, or termination of employment are disregarded outright (Treasury Regulations 2026d). A key-employee buy-in at an S corporation, with a repurchase triggered by termination of employment, falls inside that safe harbor.

A C corporation avoids the single-class constraint and reintroduces entity-level tax. The entity form the owner chose years ago, in other words, quietly sets the menu of buy-in structures available today.

Table 5. Entity form and the key-employee buy-in

Source: Internal Revenue Code sec. 83 and 1361(b); Rev. Proc. 93-27 and Rev. Proc. 2001-43; Treas. Reg. sec. 1.1361-1(l).

The two-year exception deserves attention in this context, because it interacts directly with the leaver provisions recommended in Section 10. A profits interest disposed of within two years of receipt falls outside the safe harbour, and a departure inside that window under a mandatory repurchase provision is a disposal. A vesting schedule and a leaver clause that together make an early exit likely can therefore cost the grant its treatment, which is a drafting question rather than a valuation one but is settled at the same table.

One further interaction runs the other way, from the tax election back to the entity. An 83(b) election on restricted stock of an S corporation makes the holder a shareholder for subchapter S purposes from the date of grant, which brings the 100-shareholder limit, the shareholder eligibility rules and pass-through income allocation into effect immediately rather than at vesting (Treas. Reg. 1.1361-1(b)(3)). An advisor who treats the election as a purely personal tax decision may be admitting a shareholder the company did not intend to admit yet.

10. The Repeat Buy-In and the Buy-Sell Agreement

This is a standing engagement rather than a one-time task because an owner who brings in one key employee usually brings in others over the following years. Each successive buy-in has to be priced on the same principles as the last, or the owner creates both resentment and tax risk: an employee who bought at one implied basis will not accept a materially different basis for the next colleague without explanation, and inconsistent pricing invites an argument that some buy-ins carried a disguised bargain element. Consistency does not mean the same number, because the business value changes between transactions. It means the same method: the same standard of value, the same approach to control and marketability, and the same valuation-date convention applied each time.

The instrument that enforces this is the buy-sell agreement, and its design choices are the recurring questions. The agreement should specify whether price is set by formula or by independent appraisal. A formula is cheap and predictable but drifts from reality and can misstate value badly as the company changes, while an independent appraisal is more defensible and sits more comfortably with the tax standards, at the cost of a recurring fee. It should fix the valuation date and the standard of value, so a departing owner cannot argue for an undiscounted fair-value figure when the deal contemplated discounted fair market value. It should set put and call rights and the leaver provisions that distinguish a good leaver, bought out at appraised value, from a bad leaver, bought out at cost or book. And it should address financing, because a key employee rarely has the cash: the buy-in is often funded by a seller note carried by the owner or by a bonus structured to fund the purchase, each with a tax character that should be coordinated with the Section 83 analysis rather than left to chance.

One further constraint governs whether the agreed price will be respected for transfer-tax purposes if an owner later dies or gives away an interest. Section 2703(a) is a rule of disregard: the value of property is determined without regard to any option or agreement to acquire it at less than fair market value, or to any restriction on the right to sell or use it. Section 2703(b) then supplies an exception, which applies only where the arrangement satisfies all three of a bona fide business arrangement, not a device to transfer property to family members for less than full and adequate consideration, and terms comparable to similar arm's-length arrangements; the regulation stresses that each requirement must be satisfied independently (Internal Revenue Code 2026c; Treasury Regulations 2026e). A safe harbor treats all three as met where more than 50 percent by value of the property subject to the restriction is owned by individuals who are not members of the transferor's family, provided their property is subject to the restriction to the same extent (Treasury Regulations 2026f).

Among unrelated co-owners, which is the usual key-employee situation, the safe harbor will often apply, but two points deserve attention. The family definition sweeps in any individual who is a natural object of the transferor's bounty, which is broader than the statutory family. And clearing one test does not clear the others: a book-value formula in a buy-sell can simultaneously be presumptively fair market value for Section 83 purposes, disregarded and therefore harmless for the S corporation single-class test, and still ignored under Section 2703 for estate and gift tax. The three tests are independent. This is where the present paper rejoins the transfer-tax analysis in the series, because the same agreement that prices a living employee's buy-in also fixes, or fails to fix, the value used when an owner's interest passes at death (Carter 2026a).

11. The Overlay a Valuation Analysis Usually Misses

A key-employee buy-in at a certificated operator is a change in ownership, and the Federal Aviation Administration regulates ownership and control of the certificate holder rather than treating the certificate as an alienable asset. That is the structural reason the certificate cannot be sold on its own, and it produces obligations that a purely tax-driven structure will not anticipate.

Four provisions bear on a buy-in, and the first is the one most often missed because it is in the statute rather than the operating rules.

A direct air carrier must be a citizen of the United States, and the statute defines that arithmetically for a corporation: the president and at least two-thirds of the board and other managing officers must be United States citizens, at least 75 percent of the voting interest must be owned or controlled by United States citizens, and the corporation must be under the actual control of United States citizens (49 U.S.C. 40102(a)(15)(C)). A buy-in can breach that test without anyone intending to. Selling 30 percent of the voting stock to a person who is not a United States citizen ends the operator's certificate eligibility, and so does an arrangement that hands actual control abroad even where the voting arithmetic holds.

The paper's own recommendation in Section 9 is the answer to this, though the two are rarely connected. Non-voting stock does not count toward the 75 percent voting-interest test. A structure that admits a non-citizen key employee to economic participation through non-voting equity keeps the voting arithmetic intact, which is the same structure Section 9 recommends for entirely different reasons.

The second provision has a narrower reach than it is often given. An applicant for the original issue of a certificate to conduct intrastate common carriage must disclose each person holding 5 percent or more of the voting stock, including beneficial owners, each director and officer, each required management person, and each person directly or indirectly controlling or controlled by the applicant (Code of Federal Regulations 2026e). That rule reaches applicants for an original certificate in intrastate common carriage. It does not reach an established interstate on-demand operator, which is the paradigm subject of this paper, so it should be read as an indication of what the agency considers material to ownership and control rather than as a filing obligation triggered by a buy-in. A Part 135 operator must have a Director of Operations, a Chief Pilot and a Director of Maintenance, must ensure those individuals and anyone in a position to exercise control over operations are qualified, and must notify the responsible Flight Standards office within ten days of any change in those positions (Code of Federal Regulations 2026f). And a change to the certificate itself proceeds by amendment on the holder's application, which the responsible office must find that safety in air commerce and the public interest allow (Code of Federal Regulations 2026d).

The interaction with the buy-sell design is worth stating, because it is not obvious. The event that triggers the S corporation safe harbor for a repurchase, termination of the employee's employment, is the same event that requires a ten-day notification where that employee held a required management position. A buy-in that lifts the employee across 5 percent of voting stock changes what the operator would have to disclose on a certificate application, and a buy-in that places the employee in a position to exercise control over operations engages the qualification requirement. None of this changes the value of the stake. It changes the closing checklist and the drafting, and an advisor who has priced the interest correctly and ignored the certificate has completed half of the engagement.

12. Practitioner Guidance

The analysis reduces to a sequence an analyst, owner or advisor can apply to any key-employee buy-in and repeat when the next one arrives.

First, value the operating business at the control level using income and market approaches suited to the sector, and reflect customer, pilot and certification concentration in the base value before any minority discount is applied.

Second, state the standard of value explicitly as fair market value for a voluntary buy-in, and identify the concluded level of value as the nonmarketable minority interest, as the standards require.

Third, derive the discount for lack of control from financial rather than strategic control evidence, and record why the governance terms of this company support the figure chosen.

Fourth, support the marketability discount with the study evidence as a range rather than an anchor, disclose the holding-period mismatch if post-2008 restricted-stock data is used for a private subject, consider an option-pricing bracket as a cross-check, and bridge to the subject with the Mandelbaum factors, giving explicit weight to the buy-sell agreement's transfer restrictions.

Fifth, apply the discounts multiplicatively to the pro-rata share, show the arithmetic in the report, and reconcile the concluded value against broad private-market evidence as an order-of-magnitude check while saying plainly that no sector-specific private transaction benchmark is published.

Sixth, coordinate the price with the Section 83 analysis so the employee pays fair market value and avoids an unintended compensation charge, and consider a profits interest where the entity is a limited liability company or partnership.

Seventh, put the method, standard of value, valuation date, put and call rights, leaver provisions and financing terms in the buy-sell agreement, and apply the same method through successive buy-ins.

Eighth, run the regulatory checklist alongside the tax one: voting-stock thresholds, required management positions, and the ten-day notification obligation that a departure or a promotion will trigger.

13. Conclusion

A key-employee buy-in looks like a negotiation and behaves like a valuation. The price is not a matter for agreement between the parties, because the Internal Revenue Code measures whatever they agree against fair market value and taxes the difference, and because the same discounts that make the price fair are the ones that size the tax. Getting them right is not a courtesy to the employee. It is the substance of the transaction.

Two conclusions from the evidence reviewed here run against common practice. The marketability discount should not be anchored at 35 percent on the authority of a compilation that was written to discourage that anchoring, and the recent restricted-stock medians, earned under a six-month regime that never applied to a private company, are a poor benchmark for an interest with no defined holding period at all. The honest treatment is a supported range, bridged to the subject through the Mandelbaum factors and cross-checked against an option-pricing bracket.

The aviation setting adds constraints rather than exceptions. The certificate does not transfer with the assets, so the equity is the only route to the value. No private transaction benchmark exists for these businesses, so the market approach is a check rather than a source. And the buy-in is a change in ownership that the Federal Aviation Administration takes an interest in, on a timetable measured in days. An owner who prices the first buy-in properly, documents why, and drafts the agreement to hold the method steady has built the template for the next several, and a defensible record for the transfer-tax question that will eventually follow.

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This paper is research and general information for professionals evaluating aviation businesses and aviation real estate. It is not appraisal, legal, or tax advice, and it does not create an engagement. Legal authorities are stated as of September 2026, and the discount percentages used in the worked example are chosen to demonstrate arithmetic rather than to indicate a conclusion for any interest.