Sale of stock options

Often, employees are able to buy the company stock at a discount, providing a great opportunity to accumulate wealth if the stock performs well. But the other piece of the puzzle is trying to grasp how taxes for employee stock options work.

It could easily become a nightmare if you've never dealt with stock options before. Here are a few insights to take the confusion away so you can maximize the potential of this incredible work benefit. There are two main types of stock options that you could receive as part of your compensation gift: incentive stock options and nonqualified stock options.

The main difference between these two is how they are treated for tax purposes when you exercise the options. Incentive stock options ISOs , also known as statutory stock options, are granted under a stock purchase plan. However, nonqualified stock options NSOs are granted without a specific type of plan and are often referred to as nonstatutory stock options.

When you have employee stock options, there are three special occasions you need to be aware of: the date your company granted you the options, when you exercised them, and how long you hold the shares you receive on exercise before you sell them. These moments play an important role in your tax calculation.

Most of the time, there is a vesting schedule tied to your employee stock options. Simply put, you cannot tap into your stock option benefits until you've been at your company for a certain period of time. After you are vested, then you can exercise the options at any time before they expire. Incentive stock options are simpler than nonqualified stock options from a tax perspective. Employees who have ISOs don't have to worry about taxes when they receive a stock option grant or exercise the options.

The order of operations works like this: You receive a stock option grant and then you exercise the options when you are eligible and ready to do so. After you exercise your options, then you'll have to make the ultimate decision: When do I sell my stock? Your other option: exercise your options in one period and sell your stocks later.

It's important to have a tax strategy when exercising NSOs because you'll be hit with a tax twice, and it can get a bit complicated. First, you'll typically have to pay ordinary income taxes when you exercise the options. You must pay the difference between what you paid for the stock the exercise price and the fair value of the shares when you exercised them.

The IRS considers this as compensation income even though you haven't actually made any money. Then, you'll pay capital gains tax if you sell the shares at a profit. If the sale results in a loss, you'll report a capital loss for the difference between your tax basis and what you received.

You'll either pay short-term or long-term capital gains taxes depending on how long you've held the stock. Taxes for employee stock options can be overwhelming. Use precise geolocation data. Select personalised content. Create a personalised content profile. Measure ad performance. Select basic ads.

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Restricted Stock Units (RSU)

Develop and improve products. List of Partners vendors. The options do not convey an ownership interest, but exercising them to acquire the stock does. There are different types of options, each with their own tax results. Stock options fall into two categories:. The grant of an ISO or other statutory stock option does not produce any immediate income subject to regular income taxes. Similarly, the exercise of the option to obtain the stock does not produce any immediate income as long as you hold the stock in the year you acquire it.

Income results when you later sell the stock acquired by exercising the option. The adjustment is the difference between the fair market value of the stock acquired through the exercise of the ISO over the amount paid for the stock, plus the amount paid for the ISO if any. However, the adjustment is required only if your rights in the stock are transferable and not subject to a substantial risk of forfeiture in the year the ISO is exercised.

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And the fair market value of the stock for purposes of the adjustment is determined without regard to any lapse restriction when rights in the stock first become transferable or when the rights are no longer subject to a substantial risk of forfeiture. This is because the tax treatment becomes the same for regular tax and AMT purposes. When you exercise an ISO, your employer issues Form —Exercise of an Incentive Stock Option Plan under Section b , which provides the information needed for tax-reporting purposes. For example, this year you exercised an ISO to acquire shares of stock, the rights of which became immediately transferable and not subject to a substantial risk of forfeiture.

The number of shares acquired is listed in box 5. When you sell the stock acquired through the exercise of an ISO or an employee stock purchase plan, you report a gain or loss on the sale. The information on this form helps you determine the amount of gain or loss, and whether it is capital or ordinary income.

For this type of stock option, there are three events, each with their own tax results: The grant of the option, the exercise of the option, and the sale of stock acquired through the exercise of the option. The receipt of these options is immediately taxable only if their fair market value can be readily determined e. When you exercise the option, you include, in income, the fair market value of the stock at the time you acquired it, less any amount you paid for the stock. This is ordinary wage income reported on your W2, therefore increasing your tax basis in the stock.

Later, when you sell the stock acquired through exercise of the options, you report a capital gain or loss for the difference between your tax basis and what you receive on the sale. Stock options can be a valuable employee benefit. However, the tax rules are complex.