Employee Stock Options Flashcards
When is a nonqualified option taxed?
If the option has a readily ascertainable value, it is taxed at the time of the grant. But since this is rarely the case, they are generally taxed when exercised
What is ascertainable value?
Traded on an established market or meeting all of the following conditions: option is transferable, exercisable immediately in full when granted, no conditions or restrictions that would significantly affect the value, and the fair value of the option privilege is readily ascertainable
How are employees taxed on nonqualified options with a readily ascertainable value?
recognize ordinary income in that amount in the year granted; no taxation on the date of exercise; holding period begins with the exercise date; if employee allows option to lapse, there is a capital loss based on the value of the options previously taxed
How are employees taxed on nonqualified options without a readily ascertainable value?
recognize ordinary income on the exercise date equal to the “bargain element” which is the difference between the FMV of the stock and the stock option price exercised; holding period begins with the exercise date; if the employee allows the option to lapse, there is a capital loss equal to the price, if any, that the employee paid for the options
How are employers taxed on nonqualified options?
they deduct the FMV of the stock option as a business expense in the same year that the employee is required to recognize the option as ordinary income
What are the 2 types of qualified options?
incentive stock options (ISO) and employee stock purchase plans (ESPP)
What is an ISO?
It is usually granted to a key employee and is a right to purchase the stock at a discount
The employee may not own more than 10% of the combined voting power of the corporation/parent/subsidiary at the date of the grant. Once exercised, the stock must be held at least 2 years after the grant date and at least 1 year after the exercise date. The employee must remain an employee of the corporation from the date the option is granted until 3 months before the option is exercised
How are employees taxed on ISOs?
there is no taxation of the option as compensation; any gain/loss on a subsequent sale of the stock is capital (if holding period requirements are not satisfied, any gain is ordinary); if the options lapse, there is no deduction available since the option was not taxed
How are employers taxed on ISOs?
they do not receive a tax deduction because it is not considered income to the employee
What is an ESPP?
It may grant options to employees to purchase stock in the corporation
The employee may not have 5% or more combined voting power of the corporation/parent/subsidiary. Once exercised, the stock must be held at least 2 years after the grant date and at least 1 year after the exercise date. The employee must remain an employee of the corporation from the date the option is granted until 3 months before the option is exercised. The option cannot be exercised more than 27 months after the grant date
How are employees taxed in ESPPs?
same as ISOs
there is no taxation of the option as compensation; any gain/loss on a subsequent sale of the stock is capital (if holding period requirements are not satisfied, any gain is ordinary); if the options lapse, there is no deduction available since the option was not taxed
How are employers taxed in ESPPs?
same as ISOs
they do not receive a tax deduction because it is not considered income to the employee
