In Pennsylvania’s bustling innovation corridors, from the life sciences labs in University City, Philadelphia, to the artificial intelligence startups in Pittsburgh’s Robotics Row, thousands of founders are grappling with the same agonizing question: “How much of my company is your contribution worth today?”

In the pre-product stage, valuation is a ghost. You have no revenue, no users, and perhaps only a rough MVP (Minimum Viable Product). Yet, you need to distribute equity to attract co-founders and early engineers. The traditional 50/50 split in a handshake is the most common approach, but in our experience as Pennsylvania business attorneys, it is also the most dangerous.

When you slice the pie too early and too rigidly, you risk creating dead equity and founder resentment. This article examines the legal mechanisms for distributing equity equitably before the product is built, ensuring your startup remains investor-ready and legally sound under Pennsylvania law. Because early equity decisions shape ownership, control, and investor readiness, working with experienced startup business law attorneys can help founders structure equity to protect both the company and long-term relationships.

Why Fixed Equity Splits Create Long-Term Risk

Most founders default to a fixed split, such as 60/40 on day one. The problem is that you are guessing the future. You are assuming Founder A will contribute exactly 1.5 times as much as Founder B over the next four years.

If Founder B loses interest after three months but retains their 40 percent, Founder A is left doing all of the work for only 60 percent of the reward. In Pennsylvania, removing a member from an LLC or a shareholder from a corporation without a prior written agreement is notoriously difficult and expensive.

Dynamic Equity Models for Pre-Product Startups

Many pre-product startups are moving toward a Dynamic Equity Split, often referred to as the Slicing Pie model. Instead of a fixed percentage, equity is calculated based on the relative value each person contributes, including time, money, intellectual property, and equipment.

In this model, the pie is not sliced until a valuation event occurs, such as a Seed round or the launch of a product. Until that time, the cap table remains fluid.

To implement this structure in Pennsylvania, your LLC Operating Agreement must be drafted to permit variable membership interests. If you rely on a generic template, Pennsylvania default rules will likely treat your initial ownership percentages as fixed regardless of actual performance.

Whether you choose a fixed or dynamic split, the most important legal mechanism for ensuring a fair equity distribution is vesting. Vesting ensures that founders earn their equity over time. The industry standard is a four-year vesting schedule with a one-year cliff.

How Vesting Works

If a founder leaves within the first 12 months, they receive 0%. After the cliff, equity vests monthly or quarterly. For a corporation formed in Pennsylvania, Delaware, or elsewhere, this structure is implemented through a Restricted Stock Purchase Agreement. The company issues the shares immediately but retains the right to repurchase unvested shares for a nominal price if the founder leaves.

Valuing Non-Cash Contributions Before the Product Exists

Before the product is built, sweat equity is often the primary currency. Determining how to legally value these contributions is critical. Full-time labor is typically handled through a service agreement and valued at an agreed market rate multiplied by a risk factor. Intellectual property is transferred through an IP Assignment Agreement and valued at fair market value at the time of contribution.

Cash expenses are usually documented as a reimbursable loan or equity contribution and often valued at two to three times the cash amount to account for risk. Equipment or office assets are contributed at depreciated book value.

The IP Assignment Requirement

Under Pennsylvania’s Uniform Trade Secrets Act, intellectual property belongs to the creator unless there is a written agreement stating otherwise. If your lead developer builds the product before signing an IP Assignment Agreement, they own the code, not the company. This makes the company unattractive to investors.

To address this issue, founders often sign cleanup IP assignment agreements that capture previously created intellectual property, provided the inventor is still actively involved with the company.

The 83(b) Election and Early Equity Tax Planning

If you are distributing equity before the product is built, your stock is likely worth very little. This creates a significant tax planning opportunity if handled correctly. When stock is subject to vesting, the IRS treats the increase in value as taxable income as it vests.

If your company grows from a zero valuation to ten million dollars, you could owe income tax on millions of dollars of unrealized value. An 83(b) Election allows you to be taxed on the value of your shares at the time they are issued, when the value is minimal, rather than as they vest.

Critical Pennsylvania Warning

You must mail the 83(b) Election to the IRS within thirty days of receiving your equity. There are no extensions. We have seen founders lose hundreds of thousands of dollars due to missed deadlines. A handshake does not file your taxes. A legal process does.

Act 122 and the 2025 Pennsylvania Compliance Landscape

As of January 1, 2025, Pennsylvania requires all LLCs, corporations, and general partnerships to file an Annual Report. When distributing equity among early founders, your legal documents must clearly assign responsibility for these filings. If a founder disengages and the report is not filed with the Pennsylvania Department of State, the entity may be administratively dissolved.

This seemingly minor oversight can result in personal liability for founders during the pre-product stage and can derail years of work.

Dispute Resolution and Founder Deadlock

Disagreements most often arise just before a product launch, when pressure is highest. Pennsylvania formation documents should include a Deadlock Provision.

For companies with equal ownership, a Mediation First clause is often recommended. This requires founders to work with a neutral third party before initiating litigation in the Court of Common Pleas.

For technology companies, the Philadelphia Commerce Court is well-suited to handle complex business disputes. However, a carefully drafted Operating Agreement or Shareholder Agreement can often prevent disputes entirely by clearly defining what happens when a founder ceases to contribute value.

Key Take-Away: Build on a Solid Foundation

Distributing equity before the product is built is an act of faith, but it should also be legally protected. Vesting schedules, intellectual property assignments, and dynamic equity clauses ensure that the people who create value ultimately own it. Do not let a fair-sounding split on day one turn into an unfair legal battle down the road.

Structuring Equity Before Day One Matters

At Spengler & Agans, we help Pennsylvania founders structure their initial equity to support growth, protect relationships, and withstand investor scrutiny. Whether you are forming a new LLC or resolving a founder split, our team can help. Schedule a consultation online with Nathan Wenk of Spengler & Agans via the firm’s Contact Us page to receive guidance tailored to your business needs.