Incentive Stock Options Exercised

Employee Stock Options: New Government Report Highlights Alternative Minimum Tax Issues

Saturday, July 7th, 2012 | Print This Post | Email This Post

The Congressional Research Service recently released its report on the tax issues surrounding employee stock options, including the impact of the Alternative Minimum Tax. As noted in the report, over 10 million employees currently receive stock options as a form of compensation from their employers. With this significant a portion of the U.S. population being faced with the complexities of the taxation of stock options, a review of the Regular Tax and Alternative Minimum Tax treatment is essential to basic tax planning for those affected.

Congressional Research Service (CRS)

The CRS is an agency of the U.S. Government, located within the Library of Congress. Its purpose is to provide politically neutral legal and policy analysis to Members of both the House and the Senate. Its reports provide straightforward and objective analyses of important legal issues.

What is a stock option?

A stock option simply is a right, granted by an employer to an employee, to buy a certain number of shares of the employer’s stock at a set price. If the stock goes up in value the employee receives additional compensation in the form of the appreciation in the stock’s price. For example, if Employer A grants Employee X the right to buy 1,000 shares of stock at $10 per share, and the stock price goes to $15 when the employee exercises the option, the individual will have received additional compensation, over and above his or her base salary, in the amount of $5,000.

Two types of employee stock options

There are only two basic types of employee stock options – “qualified” and “nonqualified.” Because qualified options must meet certain requirements in order to be labeled as such, and they have less favorable tax results for the issuing employers, these are less frequently encountered. Nonqualified options, on the other hand, are easier to issue because of the lack of these requirements, and along with the more favorable tax treatment to the employer, are more commonly found. The Alternative Minimum Tax treatment is significantly different between these two types of options, so it is very important as a first step that the employee know which type of option he or she has received.

Qualified stock options

Qualified stock options are also known by their Internal Revenue Code label “Incentive Stock Options,” or “ISOs.” Employees prefer receiving these because there is no tax due on the date of exercise for Regular Tax purposes. So long as certain holding period requirements are met, the employee will have long-term capital gain treatment on subsequent sale of these shares, resulting in a significant tax savings because the capital gains tax rate is much lower than the tax rate on ordinary income.

Nonqualified stock options

The Regular Tax treatment of nonqualified stock options is much different than it is for ISOs. For this type of option, on the date of exercise the employee will have compensation income, reported on his or her W-2, for the increase in the value of the stock. In addition to the Regular Tax rates applying (currently as high as 35%), FICA taxes also will be due.

Example – comparison of Regular Tax treatment

Using the above example of $5 of appreciation on 1,000 options, the tax savings alone from exercising an ISO as compared to a nonqualifed option could be nearly $1,400, a very significant part of the total $5,000 gain. This represents the difference between a capital gains rate of 15% applying and an ordinary income rate of as high as 42.65% (35% income tax and 7.65% FICA tax).

Alternative Minimum Tax

Because the AMT was designed to put a damper on some of the favorable Regular Tax treatments found in the tax law, there is a price to be paid by those exercising ISOs. While there is no Regular Tax to be paid on exercise of an ISO, the “spread” (the $5 in our example) per share is a tax preference item, and must be included in the employee’s AMT income (“AMTI”). By including this amount, the employee’s AMTI will be higher than his or her Regular Tax, thus potentially triggering the AMT in the year of exercise.

AMT planning for ISOs

The planning to minimize – and in many cases to completely eliminate – the AMT impact from exercise of ISOs is fairly easy. All one has to do is a little planning before the exercise, testing for the AMT using alternative amounts of ISO shares. For example, it could be that the $5,000 in our example is not enough of a tax preference item to trigger the AMT, while exercising several years’ worth of options at once would trigger the AMT. In this case, the employee is better off spreading the exercise over several years instead of doing them all in one year.

Conclusion

There are 10 million people out there who can do just two simple things to avoid unnecessarily paying the Alternative Minimum Tax. The first is to understand what kind of option – ISO or nonqualified – he or she has. The second, assuming it is an ISO, is to calculate the AMT impact from the exercise of different amounts of options, and then to select the amount that avoids the AMT. It’s simple and easy to do, and the result could be saving thousands of dollars of taxes.

Posted in AMT Items, AMT Planning in General, Capital gains & Dividends, Incentive Stock Options Exercised | No Comments »

Year-End Tax Planning – Should You Accelerate or Defer Income to Minimize Your Alternative Minimum Tax?

Saturday, November 19th, 2011 | Print This Post | Email This Post

In connection with year-end tax planning, much has been written about accelerating or deferring deductions. The sometimes-overlooked question of accelerating or deferring income deserves just as much attention, especially for those in the Alternative Minimum Tax. This article will look at what needs to be considered in planning around income recognition, including a summary of the different types of income to which this planning can apply.

What happens with the AMT calculation when one’s income level changes?

Tax brackets for the Alternative Minimum Tax are progressive, as are those of the Regular Tax. What this means in simple terms is that additional amounts of income are taxed at a higher rate than the tax rates that apply to the lower levels of income. The Regular Tax has six brackets, ranging from 10% to 35%, while the AMT has just two – 26% and 28%. As will be explained below, however, there are other adjustments in computing taxable income that actually can make these stated tax brackets significantly higher.

What are the real AMT brackets?

In calculating the Alternative Minimum Tax, an individual is allowed to subtract an exemption amount from what otherwise would be taxable income. This exemption amount is $74,450 for a married couple in 2011. As has been discussed in previous articles, however, the exemption is phased out as a taxpayer’s income increases. This phaseout has the direct effect, therefore, of increasing the effective AMT tax rates for individuals who find themselves in this phaseout range.

For 2011, for the married couple, the phaseout begins at $150,000 and doesn’t stop until their income exceeds $440,000. Within this range, each incremental $100 of income will result in a loss of $25 of the AMT exemption. The result is that a 28% Alternative Minimum Tax bracket is increased by a factor of 25%, resulting in an effective AMT tax bracket of 35%!

What does all this mean for planning?

Knowing one’s effective tax bracket is the only way to do proper AMT planning. It can be a costly mistake to deliberately accelerating income, thinking one is in an Alternative Minimum Tax bracket lower than the Regular Tax bracket, only to find out this actually is not the case. Many year-end tax planning articles routinely suggest that people in the AMT do exactly this, but without knowing what your effective AMT tax rate is it could instead turn out to be a costly mistake.

What types of income can be accelerated or deferred?

The answer to this question will depend on each individual’s situation- i.e., whether the person is employed or self-employed, what kind of investments the person has, etc. Discussed below is a brief overview of some of the types of income that an individual may be able to accelerate or defer at year-end.

- Employee compensation such as bonuses and stock options

Some employers allow employees the choice of taking their bonuses currently or deferring them to a future year. In addition, employees may be granted stock options, and the timing of when these options are exercised is entirely up to the employee – they can be exercised just as easily in December as they can in January. If the employee has what are known as nonqualified stock options, taxable income will be recognized immediately on the date of exercise – both for the AMT as well as Regular Tax purposes. If the options are qualified options (these are more commonly known as incentive stock options, or ISOs), there is no taxable income on the date of exercise for Regular Tax purposes, but there is for the Alternative Minimum Tax.

- Business income from self-employment, LLCs or partnerships

A business usually has some degree of control at year-end over its net income for that last month of the tax year. For example, a cash-method business could pay outstanding bills in December to reduce income, or wait to pay them in January, which would directly affect the amount of income reported on the business owner’s tax return. The business also could hold off from sending out certain bills out towards the end of the year, thus postponing income into the following year.

- Investment income

Here are some acceleration or deferral thoughts on a few types of investments:

Capital gains – an individual has complete control over the timing of any sales of investments, so capital gains easily could be recognized this year or next.

Rental income – a landlord might ask for the rent check that is due on January 1^st to be paid a few days early.

Interest and dividends – as a longer-term strategy, an individual could shift in or out of bonds and/or dividend-paying stocks to affect the amount of interest and dividend income received on a current basis.

Conclusion

Knowing what tax bracket the taxpayer is in is critical to any tax planning, but especially so for individuals in the Alternative Minimum Tax. The only way to minimize the AMT is to take a little time as we approach year-end to look at the options available in terms of what income might be moved between 2011 and 2012, and then to figure out which of these choices will result in the lowest tax burden. With the holiday season keeping everybody pretty busy, it’s never too soon to start doing at this!

Posted in AMT Exemption, AMT Items, AMT Planning in General, Calculation of the AMT, Capital gains & Dividends, Incentive Stock Options Exercised, Investor, Self Employed, Type of Taxpayer | No Comments »

Exercising Employee Stock Options – Beware of the Alternative Minimum Tax

Saturday, April 2nd, 2011 | Print This Post | Email This Post

With the stock market having nearly doubled over the past two years, many individuals holding stock options that they received from their employers are giving serious consideration to cashing out the value in these options. This article discusses the two principal types of options and explains the different AMT issues associated with each.

Types of stock options

For tax purposes there are two types of stock options – “qualified” and “nonqualified.” The official term for a qualified option is Incentive Stock Option, commonly referred to as an “ISO.” Each employer has the discretion, through the design of its plan, as to which type of option it grants to the employee, and it is not uncommon for some employees to have both types. It is important to note here that it is the responsibility of the individual to understand what he has.

Stock option essentials

A stock option, like any other option, is a contract giving one person the right to buy property from another person at a predetermined price. If the underlying property (stock) increases in value, the value of the option correspondingly increases. If the value of the stock decreases, the option has no value. Options generally have a fixed term – five to ten years for stock options is common, so the employee must act within this period or the option will lapse.

Example – an employee is granted an option to buy 1,000 shares of his employer’s stock at today’s value of $50. If the stock increases to $60 before the option lapses, the employee can exercise the option, effectively buying the shares from the employer at a discount and, in this example, realizing a $10,000 gain. To alleviate the hardship of asking the employee to write a check for the $50,000 exercise price, employers commonly arrange with a broker to allow what is referred to as a “cashless” exercise involving a same day sale. In this situation, on the date of exercise the broker sells an equivalent number of shares, and then sends the employer the $50,000 along with enough to cover the tax withholding requirements. Then, at the close of the market’s three-day settlement period, the net amount ($10,000 less taxes) is credited to the employee’s account.

Tax results from option exercise

Nonqualified option – on the date of exercise the $10,000 in the above example is taxable income. This is ordinary income, not capital gain, just as if it were part of the employee’s salaries and wages. The $10,000 will be included in taxable income reported in the employee’s W-2 at the end of the year.

ISO (qualified option) – The $10,000 will not be taxed as income on the date of exercise. Instead, it is a tax preference item for purposes of the AMT, meaning that Alternative Minimum Taxable Income will be higher than the employee’s Regular Tax taxable income by $10,000. The number in this example is relatively small, but if the preference item from an ISO exercise is large enough the employee easily can find himself stuck in the AMT. If the individual already is in the AMT, the hit from an ISO exercise will make it just that much more painful.

Tax planning for option exercises

The exercise of a nonqualified option does not have any direct AMT consequences. As an individual’s taxable income increases, however, the Alternative Minimum Tax exemption is phased out, so testing for the impact of this is important before exercising even a nonqualified option.

Especially critical, however, is tax planning before doing an ISO exercise. In order to exercise an ISO without triggering the Alternative Minimum Tax, the individual has to do the tax calculation under alternative assumptions as to the size of the exercise, as well as consider doing the exercise partially in one year and partially in the next. By doing this it certainly is possible to minimize the impact of an ISO exercise. Note also that the employee has a period of time after the exercise within which a sale of the stock will constitute a “disqualifying disposition,” thus negating the AMT effect and retroactively treating the transaction as if it were instead a nonqualifying option.

Summary

The underlying investment decision as to the right time to cash out of employee stock options must, of course, must be the individual’s primary focus, but if that exercise will bring along with it a big AMT hit taxes need to be considered in deciding how many options to exercise and in what year they are exercised. That nice chunk of extra income the employee thinks he is getting can be seriously eroded by improper tax planning.

Posted in AMT Exemption, AMT Planning in General, Incentive Stock Options Exercised, Salaried, Type of Taxpayer | No Comments »

I Am Retired – Does the AMT Apply to Me?

Thursday, March 17th, 2011 | Print This Post | Email This Post

Of all the different types of AMT taxpayers, retirees typically are the most surprised when they find themselves stuck in the Alternative Minimum Tax. Unfortunately, there is no “age exemption” for the AMT – an individual could reach 100 and still be paying it, depending on that person’s level and types of income and tax deductions. In certain cases, the AMT may even hit a retiree harder than a person still working. With a little understanding of the issues and some advance planning, retirees may actually be in a better position than others to do something about the AMT.

There’s a great story that Eric Solomon, Assistant Secretary of the U.S. Treasury for Tax Policy during the Bush administration, used to tell. His father had received a letter from the IRS stating that his 2004 tax return could not be processed because he had not computed his Alternative Minimum Tax. “My dad said, ‘I’m 82. I don’t pay the AMT,’” Solomon would recall. Unfortunately, no such octogenarian exemption exists, but Solomon said he had to spend three hours on the phone with his dad working through the Form 6251.

This article will address both income issues associated with retirees and the AMT as well as deduction issues.

Income issues

Retirement plan distributions

Individuals have many choices as to how they can take distributions from their retirement plans, whether these plans are in the form of pensions or 401(k)-type plans. A lump-sum distribution, or some other accelerated form of distribution, more likely would trigger the AMT than choosing a lifetime annuity. This is because the higher one’s income is in any one year the more likely the AMT exemption is phased out, in turn meaning the more likely the individual is to be in the Alternative Minimum Tax.

Stock options- nonqualified

Many mid- to upper-level employees who work for a corporation, typically a publicly-traded corporation, receive “nonqualified” stock options as part of their compensation packages. Many of these option plans allow the individual a certain period of time after retirement to exercise these options. Similar to the point made above with respect to retirement plans, a retiree must consider the AMT impact when deciding when to exercise these options and how much income will be generated.

Stock options – Incentive Stock Options

If an individual has Incentive Stock Options, the exercise of these in one year can almost guarantee paying the Alternative Minimum Tax. This is because the difference between the value of the stock on the date of exercise and the option price is a direct AMT preference item – unlike the indirect effect the exercise of nonqualified stock options can have as discussed above.

Capital gains

Retirees on occasion may have capital gains that are disproportionately large in comparison to the rest of their income. These gains may result from distributions from mutual funds, over which the individual has no direct control, or from an effort to diversify an investment that is too concentrated in one stock, or from any number of reasons. These sudden bumps in income can cause the retiree to lose a portion of his AMT exemption, resulting in a problem similar to those discussed above.

Deduction issues

Standard deduction

A taxpayer may elect to take the “standard deduction” in lieu of itemizing deductions. The amount of the deduction varies by filing status, but for a couple filing jointly it is $11,600 for 2011. Since no standard deduction is allowed for the AMT, Alternative Minimum Taxable income – the amount on which the AMT is calculated – will be $11,600 higher than Regular Tax taxable income. Add to this the extra $2,300 exemption for folks age 65 and over and one can see why more and more retirees are being pulled into the AMT. Note that an extra amount also is allowed in cases of blindness, further exacerbating the problem for these individuals.

Property taxes and state income taxes – changes in state of residence

An individual who itemizes deductions generally will get a Regular Tax benefit for property taxes and state income taxes, as well as certain other state and local taxes. None of these taxes is allowable as a deduction in computing the Alternative Minimum Tax. Accordingly, like the standard deduction issue discussed above, taxable income on which the AMT is calculated will be higher than Regular Tax taxable income. If a change in state of residence at retirement is contemplated, it is important to plan for the AMT effects. Moving from a high state and local tax jurisdiction to a state without income tax like Florida, for example, could mean falling out of the AMT along with a corresponding opportunity to move income, or deductions, from one year to the other to minimize the AMT.

Summary

A sudden change in one’s income position, as typically happens in the case of retirement, can present significant Alternative Minimum Tax planning opportunities. Deductions that would be lost in an AMT year may be shifted to a Regular Tax year, and income might be taxed at a lower rate in one year versus the other. These principles apply to all future retirement years; not just the year of transition from employment to retirement. While often overlooked, taxes, especially the Alternative Minimum Tax, are a very important part of planning for retirement.

Posted in AMT Exemption, AMT Planning in General, Calculation of the AMT, Capital gains & Dividends, Incentive Stock Options Exercised, Retiree, Standard Deduction, State Income & Other Taxes, Type of Taxpayer | 1 Comment »

Joint Committee on Taxation – Tax Expenditures and the Alternative Minimum Tax

Saturday, March 12th, 2011 | Print This Post | Email This Post

The Joint Committee on Taxation recently issued a report on tax expenditures. “Tax expenditures” are government spending that is accomplished through the Internal Revenue Code – in effect a negative tax. The tax expenditure term was created over 40 years ago by Stanley Surrey, then Assistant Secretary of the Treasury, as a way to describe the political use of tax breaks for means that were more typically accomplished through direct government spending.

Set forth below is an excerpt from this recent report – the part addressing the Alternative Minimum Tax. It makes for interesting reading, especially when one finds such comments as “the AMT is not viewed as part of normal income tax law.”

The report:

Under the Joint Committee staff view of normal tax law, compensatory stock options would be subject to regular income tax at the time the options are exercised and employers would receive a corresponding tax deduction. If the option has a readily ascertainable fair market value, normal law would tax the option at the time it is granted and the employer would be entitled to a deduction at that time. The employee’s income would be equal to the difference between the purchase price of the stock and the market price on the day the option is exercised.

Present law provides for special tax treatment for incentive stock options and options acquired under employee stock purchase plans. When certain requirements are satisfied, then: (1) the income that is received at the time the option is exercised is excluded for purposes of the regular income tax but, in the case of an incentive stock option, included for purposes of the alternative minimum tax (“AMT”); (2) the gain from any subsequent sale of the stock is taxed as a capital gain; and (3) the employer does not receive a tax deduction with respect to the option. The special tax treatment provided to the employee is viewed as a tax expenditure by the Joint Committee staff. However, it should be noted that the revenue loss from the special tax treatment provided to the employee is accompanied by a significant revenue gain from the denial of the deduction to the employer. The negative tax expenditure created by the denial of the deduction for employers is incorporated in the calculation of the tax expenditure.

The individual AMT and the passive activity loss rules are not viewed by the Joint Committee staff as a part of normal income tax law. Instead, they are viewed as provisions that reduce the magnitude of the tax expenditures to which they apply. For example, the AMT reduces the value of the deduction for State and local income taxes (for those taxpayers subject to the AMT) by not allowing the deductions to be claimed in the calculation of AMT liability. Similarly, the passive loss rules defer otherwise allowable deductions and credits from passive activities until a time when the taxpayer has passive income or disposes of the assets associated with the passive activity. Exceptions to the individual AMT and the passive loss rules are not classified as tax expenditures by the Joint Committee staff because the effects of the exceptions already are incorporated in the estimates of related tax expenditures. In one case the restrictive effects of the AMT are presented separately because there are no underlying positive taxexpenditures reflecting these effects: the negative tax expenditures for the AMT’s disallowance of personal exemptions and the standard deduction.

Posted in Incentive Stock Options Exercised, Legislation/tax law changes, Personal Exemptions, Standard Deduction, State Income & Other Taxes | No Comments »

It’s Fall: 10 Weeks of Alternative Minimum Tax Planning Ideas…Week 10

Sunday, December 27th, 2009 | Print This Post | Email This Post

Year-End AMT Planning Wrap-Up – Part 1

In our 10-week series of articles on tax planning for the Alternative Minimum Tax, we have looked at many things a taxpayer can do to reduce his AMT liability. With only four days left in which to act in order to reduce 2009’s taxes, here is a summary of these items, with reference to the date each article appeared on amtblog.com. Please refer back to the article for the specific tax-saving steps that still may be taken before year end.

State and local taxes

This item affects 94% of all AMT payers, yet it is one of the easiest to plan for and it can have the most direct impact on a taxpayer’s Alternative Minimum Tax. There are three types of taxes here:

1. Property taxes – by weighing the relative factors of property tax burden, percentage of AMT payers, and size of population, here is a ranking of the top 10 states that are hit the hardest by this item. Residents of these states really do need to focus on this one in particular. See the November 8th article posted on amtblog.com, “Property Taxes.”

#1 – New York
#2 – New Jersey
#3 – California
#4 – Illinois
#5 – Massachusetts
#6 – Connecticut
#7 – Maryland
#8 – Pennsylvania
#9 – Virginia
#10 – Ohio

2. Income taxes – the tax dollars here are larger, on a per-taxpayer basis, than property taxes. While the AMT planning takes a little more work than property taxes, the potential savings still are there. See the amtblog.com article posted on November 2nd, “State Income Taxes.”

3. Sales tax on new cars – this is easy money for those who bought a new car this year, or still are contemplating buying one. See the amtblog.com article posted on November 11th, “Sales Tax on New Cars.”

Stock options, in particular Incentive Stock Options (ISOs)

A large number of corporate employees, generally ranging from the mid-management level up to the “C Suite” folks, have stock options granted to them by their employers. If these options are ISOs, AMT planning is critical because of the major impact the exercise of these options can have on an individual’s Alternative Minimum Tax. Our two-part series of articles appearing on amtblog.com on December 3rd and December 6th, “Incentive Stock Options – Parts 1 and 2,” go through the basic steps in determining whether a taxpayer does in fact have an ISO – often confused with the other types of stock options and equity grants an employer may offer – and then explains how these ISO exercises trigger the AMT. This is a very important read for all those who either have exercised stock options or are contemplating exercising stock options.

Capital gains

The impact of capital gains on a taxpayer’s Alternative Minimum Tax can be a real surprise – and, unfortunately, not a pleasant surprise At first blush capital gains appear to be AMT-neutral, but this is far from the case. The December 13th article on amtblog.com, “Investments – Capital Gains,” explains this issue. To the extent a taxpayer has recognized capital gains in 2009, and/or “harvested” capital losses to offset capital gains, there can be a direct AMT impact. Any capital gain or loss activity between now and December 31 also will have this impact.

Summary

It is not too late to take action on any of the above items for 2009, but time is short. Once the ball drops in Times Square, you’ll be planning for 2010!

Posted in AMT Planning in General, Capital gains & Dividends, Incentive Stock Options Exercised, State Income & Other Taxes | No Comments »

It’s Fall: 10 Weeks of Alternative Minimum Tax Planning Ideas…Week 6

Sunday, December 6th, 2009 | Print This Post | Email This Post

Incentive Stock Options (ISOs) – Part 2

An individual holding an Incentive Stock Option to acquire his employer’s stock, and considering taking advantage of this fall’s run-up in the price of that stock, needs to be planning for the potential Alternative Minimum Tax impact. Time is important – Dec. 31 is fast approaching, and after that it is too late to do any AMT planning for a 2009 ISO exercise.

Why does an ISO exercise trigger the Alternative Minimum Tax? Let’s first summarize and compare the Regular Tax and the Alternative Minimum Tax impact:

- Regular Tax – When an ISO is exercised, the taxpayer does not have any taxable income at that point. Later, when the stock is sold, there will be capital gain income, taxed at the favorable capital gain rates. Note that this is the big tax advantage to ISOs over nonqualified options, which are taxed at ordinary tax rates on the date of exercise.

- AMT – When an ISO is exercised, an AMT item is generated and must be reported on the Form 6251. The amount of this item is the income the taxpayer otherwise would have paid Regular Tax on if the stock option were not an ISO. Depending on the size of the exercise in relation to the taxpayer’s other income, this ISO exercise AMT item can be the single thing that pushes the taxpayer into having to pay the AMT.

Here is how an individual planning to exercise an ISO computes the amount of the AMT item:

The “spread,” or difference, between what the taxpayer pays for the stock (the “exercise price”) and the value of the stock on the date of exercise (the “fair market value” or “FMV”) is the dollar amount of the AMT item. As an example, assume the following:

$20 – the exercise price, or the amount the employee must pay his employer to acquire each share of stock.

$50 – the FMV of each share on the date of exercise. For a publicly-traded company, this is the average of the high and the low trading prices on that day.

5,000 – the number of shares the employee can acquire through the exercise of the option.

The “spread” per share is $30 and the number of shares is 5,000, so the total dollar amount of the spread is $150,000. This is the amount of the AMT item to report on the Form 6251. As mentioned above, if this were not an ISO, but a regular “nonqualified” option, this amount would be income, taxed immediately at up to 35% plus any related payroll taxes, and reported in the employee’s W-2. But because in our example we are assuming that we do have an ISO, the $150,000 is not subject to tax at this point. Caution, however: as an AMT item, without advance tax planning this amount easily could be enough to trigger the AMT for any particular taxpayer.

Assuming the taxpayer does his tax planning and avoids triggering the AMT, the tax savings in this example is as much as $30,000 or even more – not an insignificant sum for a taxpayer to keep in his pocket rather than turn it over to Uncle Sam. The $30,000 is the difference between the top Regular Tax bracket of 35% and the current capital gains rate of 15%, multiplied by the amount of income.

There are a number of technical rules that must be met for a stock option to qualify as an ISO. The employee must consult with his company’s HR and/or Law Departments to confirm that these rules have been met.

Remember – December 31 is only 3-1/2 weeks away!

Posted in Incentive Stock Options Exercised | 1 Comment »

It’s Fall: 10 Weeks of Alternative Minimum Tax Planning Ideas…Week 6

Thursday, December 3rd, 2009 | Print This Post | Email This Post

Incentive Stock Options (ISOs) – Part 1

There are many different ways an employer can award an employee with equity, or stock ownership, in the company. Briefly explained below are the ones commonly used for this purpose. Critical to planning for the Alternative Minimum Tax, the employee must first know exactly what form of equity he holds, because only one has direct AMT implications.

Incentive Stock Option – also known by its acronym, “ISO,” or as a “Qualified Stock Option,” this one is an AMT preference item. If the employee holds an ISO, tax planning is critical – significant Alternative Minimum Tax dollars can be involved.

None of the other forms of employer equity ownership listed below has direct AMT implications. General tax planning always is advisable, of course, but these are not AMT concerns.

Non-Qualified Stock Option – the majority of stock options that employees are given are this type. Acronyms used are “N-Q,” “NQ,” or “NSO.” Caution here is appropriate – these commonly are mistaken for the ISO form of stock option.

Restricted Stock or Restricted Stock Unit – this is not a stock option; it is direct ownership, or a direct ownership derivative, of the employer’s stock. Also referred to as “RS” or “RSU.” Restricted Stock itself is sometimes distinguished from an RSU by calling it a Restricted Stock Award, or “RSA.”

Stock Appreciation Right, or “SAR” – this is a bonus agreement between the employer and the employee whereby the employee will be paid an amount equal to any appreciation in the employer’s stock over a set period of time. Also known as “Phantom Stock,” this simply is a cash bonus plan that is based on an increase in the stock’s value.

Employee Stock Purchase Plan, or “ESSP” – these plans allow employees to purchase actual shares of stock from the employer, usually at a discount.

Employee Stock Ownership Plan, or “ESOP” – this is a qualified retirement plan that invests in the employer’s stock. It is similar to a 401(k) plan, but without the investment diversification typically found in a 401(k).

An individual with an equity award received from his employer simply needs to review the above list and make sure he knows exactly what he has. If, and only if, he has an Incentive Stock Option – an ISO – does he need to worry about the AMT impact. But the time to worry is now – Dec. 31 is fast approaching. Come Jan. 1 it is too late to do anything about 2009′s taxes.

Next – understanding why an ISO triggers the Alternative Minimum Tax.

Posted in Incentive Stock Options Exercised | 1 Comment »