Nonstatutory stock options
Tax Consequences of Nonqualified Nonstatutory Stock Options Internal Revenue Code Section 83 governs nonstatutory stock options. Nonstatutory stock options trigger ordinary income to you at some point in time and produce a compensation deduction to the employer. In the following circumstances, all stock options are considered not actively traded on an established market. Nonstatutory stock options must meet four conditions to have a nonstatutory ascertainable fair market value. The option is transferable by the optionee. The option is exercisable immediately in full by the optionee. Neither the option, nor the underlying stock is subject to any restrictions that have a significant effect on the option's value. Thus, valuation of the option privilege requires a prediction of the stock course of the underlying property's value, something stock is often impossible to do with reasonable accuracy. This one requirement alone effectively denies readily ascertainable fair market value status at grant to most options. Assuming the nonstatutory four conditions are met, the fair market value less any amount paid for the option will be taxed in the taxable year of the grant and treated as compensation income ordinary income. There is no tax consequence upon the exercise of the option. Upon sale of the stock, you will realize capital gain. Options amount of the gain will be the selling price reduced by the basis in the stock. Basis will equal the sum of the per share amount paid for the exercise of the option and any amount included in income upon the options grant. There is no taxable event at date of the stock. If the underlying property is not restricted when you exercise the options, compensation income is computed as the difference between the fair market value at date of exercise and stock of the grant. The effect of not having a taxable event at the time of grant is to treat as compensation income, and not capital gain, the appreciation in the value of the property underlying the option between option grant and exercise. When you sell the stock, the basis in the stock will equal the sum of the exercise price plus the amount options in ordinary income at exercise. If the underlying property is restricted at exercise, you postpone the taxable event with respect to the options exercise until the restrictions lapse. This essentially closes the taxable event at exercise and provides an opportunity to limit ordinary income from the transaction to any difference on the date the property is transferred between stock fair market value and the amount paid for the property. Any appreciation in the property after the date of transfer is converted into capital gain income. The employer will receive a deduction in options year in which the employee's income inclusion ends. For example, the deduction is allowed either 1 in the employer's year that ends with the employee's year i. Generally, the employer's deduction is the same amount included in ordinary income options the employee; however, the employer's deduction can be limited in certain instances. The following maximum marginal tax rates are currently in effect: Holding period Nonstatutory marginal tax rate 12 months or less The obligation to pay employment taxes and to withhold income taxes generally belongs to the employer. The options will more than likely withhold FICA, Medicare and withholding from other cash compensation paid to you. Will the grant of a Nonstatutory Option result in Federal income tax options to me? However, if the option has a readily ascertainable fair market value at the time of its grant, the answer is yes. Will the exercise of a Nonstatutory Option result in Federal income tax liability to me if the option does not have a readily ascertainable fair market value at the date of grant? Generally, you will recognize ordinary income in the year in which you exercise the nonstatutory option. The ordinary income amount options be equal to the excess of i the fair market value of the purchased shares on the exercise date over ii the exercise price paid for those shares. Your employer will report this income on your W-2 wage statement for the year of exercise or on a Form if you are not an employee. You will be required to satisfy the tax withholding requirements applicable to nonstatutory income. What if the shares purchased under a Nonstatutory Option are subject to a substantial risk of forfeiture? There are times when the shares you purchase under a Nonstatutory Option are subject to a substantial risk of forfeiture. For example, the Corporation's right to repurchase those shares at the original exercise price upon your termination of service before vesting in such stock, is a substantial risk of forfeiture. As such, you will not recognize any taxable income at the time options exercise. You must report as ordinary income, as and when the Corporation's repurchase rights lapse, an amount equal nonstatutory the excess of nonstatutory the fair market value of the shares on the date such shares vest over ii the exercise price paid stock the shares. Nonstatutory you purchase shares subject to a substantial risk nonstatutory forfeiture, you may elect under Section 83 b to recognize income at the time of exercise. If a Section 83 b election is made, you will nonstatutory recognize any additional income with respect to your shares until you sell or otherwise transfer such shares in a taxable transaction. What is the effect of making a Section 83 b election? If you purchase shares subject to a substantial risk of forfeiture, you may elect nonstatutory Section 83 b to recognize ordinary income in the year of exercise. The ordinary income amount is equal to the excess of i the fair market value of the purchased shares on the exercise date over ii the exercise price paid nonstatutory the shares. The fair options value of the purchased shares will be determined as stock the shares were not subject to the substantial risk of forfeiture. If you make the Section 83 stock election, you will not recognize any additional income when the forfeiture risk subsequently lapses. You must file the Section 83 b election with the Internal Revenue Service within thirty 30 days following the date the option is exercised, and any ordinary income resulting from such election will be subject to applicable tax withholding requirements. What information must be included in a Options 83 b election? The election is made by filing two copies of a written statement with the IRS Service Center where you file your return - one at the time of the election and one with the tax return for the tax year in which the property was transferred. You must also give a copy of the written statement to your employer, or the person for options you performed services. The following information must be included in the Section 83 b election: Your name, address and identification number Social Stock number ; Description of each property for which the nonstatutory is being made; Stock or dates when the property was transferred, and the taxable year for which such election was made; Nature of restriction or restrictions on nonstatutory property; Fair market value of property determined without stock any restriction other than one which will never lapse at the time of transfer; Amount of consideration paid for the property; and Statement that required copies have been provided. Will I recognize additional income when I sell shares acquired under a Nonstatutory Option? You will recognize a capital gain to the extent the amount realized upon the sale of such shares exceeds their fair market value at the time you recognized the ordinary income with respect to their acquisition. A capital loss will result to the extent the amount realized upon the sale is less than such fair market value. The gain or loss will be long-term if you hold the shares for more than one 1 year prior to the disposition. The holding period normally starts at the time the Nonstatutory Option is exercised. If you purchase shares subject to a substantial risk of forfeiture, the capital gain holding period will start either: What are the Federal tax consequences to the Employer A7. For example, the deduction is allowed either: Generally, the employer's deduction is the same amount included in ordinary income by the employee; however, the employer's deduction can be limited in certain circumstances. If the deduction is attributable to a nonstatutory option exercised for options subject to a substantial risk of forfeiture, then without a Section 83 b election, the deduction will not be allowed until the taxable year of the employer which includes the last day of the calendar year in options you recognize the ordinary income with respect to the shares acquired under your nonstatutory option. If you have any questions with regards to the use of these documents, please read our Disclaimer. If quoting Dana S.
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