MT: US Tax on Employee Stock Options & ESPPs

dpph · Post by **dpph** » Sat Feb 17, 2007 2:08 am

USE THIS THREAD FOR POSTING US TAX QUESTIONS ON EMPLOYEE STOCK OPTIONS AND EMPLOYEE STOCK PURCHASE PLANS

Desi
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The following question is from member DPPH

Hi Tax Gurus,
Please help me. I have sold some stock options in 2006 and all of them are reflected in W2. Do I have to do anything special when I file my tax for 2006...just a regular filing...I will be using Taxactonline.
Thanks for your help.

Umanja · Post by **Umanja** » Sun Feb 25, 2007 11:31 pm

You also need to report the transaction on Schedule D. The brokerage company that sold the stock on your behalf will report the sale to the IRS on a 1099. Your basis will be the cost of the shares (which were deducted from the sales proceeds) and the gain on the sale which was reported by your employer as part of your earnings on your W-2. In most cases this kind of a transaction ends up in a small loss because of the commissions charged by the broker. However, if you ignore this, in a couple of years the IRS will get in touch with you and if you do not resolve this matter to their satisfaction, they will attempt to increase your taxable income by the entire selling price even though you have already paid taxes on the difference between the selling price and your cost. Talk to a CPA and make sure you inform him of this transaction. Spend a little now to avoid a big problem in the future.

Desi · Post by **Desi** » Mon Feb 26, 2007 12:07 am

I am going to provide a hypothetical example of how cashless exercise of stock options works. This should explain to you the details.

Let us say you had stock options for 1000 at $ 20 per share.

Let us say for example the broker sold them for $25 per share and his commissions were $60, so the broker got a net of 24940 (25 times 1000 minus 60 commisions).

Net sale proceeds are 24940, to be reported in schedule D (this will be on your 1099-B also).

The company will take the closing cost of that day or the previous day as the fair market value and let us assume that that is $25.30.

So the company will assume that they gave you 1000 shares worth 25300 (25.30 times 1000) for a price of 20,000 (20 times 1000). So as far as the company is concerned they gave you 5300 (25300-20000) in additional income.

The company needs to deduct taxes for this 5300 and let us assume that these taxes are 1800. The broker then remits $20,000 plus $1800 to company. Broker receives 1000 shares from company. Broker sells 1000 shares and after commisions nets 24940 as shown above. From this 24940, after paying the company (20,000 +1800), the remaining money which is 3140 is sent to you.

Your W2 will show an additional income of 5300 and taxes paid of 1800.

Your 1099B will show 24940.
Your cost basis for the above shares would be 25300.

On schedule D, you will have a short term loss of $360.

Also, I am going to edit the title of this thread to " Taxes on stock options"

doesntMatter · Post by **doesntMatter** » Mon Feb 26, 2007 7:38 am

A minor detail: The tax will be withheld at source only for NSO type of options and not for ISO type of options.
Is the 1800 that is withheld completely towads the federal tax or is there a portion of it payed to the state as well ?

Another important thing is the employee is supposed to pay estimated tax at the end of the quarter when the options were exercised (this is for ISO as tax is not withheld at source) or change the W9 (or is it W4) to increase the tax deductions.

Now comes a question:
What if these options are exercised during NRA status ? DO we still owe state tax ? (I know this might sound ridiculous to talk about NRA status and state tax). How will this income show up in a W2 ? Just as part of taxable Federal income ? Because we will be in NRA status, I suppose the W2 should not have anything in the state part.
Can someone please confirm ?

Thanks

Vel · Post by **Vel** » Mon Feb 26, 2007 8:25 am

What a timing of this thread. I was in the same situation last year - exercised few ESPO using cashless option. The amount was included as income in my Employer W2 and the brokerage company also sent form 1099B with the full price without cost basis. I didn't file the returns through CPA, but consulted him and as per his advise, I just showed the W2 income and ignored the 1099B part. This is for 2005 return.
Yesterday, I got a notice from IRS on this - they have asked clarification on why I didn't include the 1099B part in my return.
I have all the documents and going to put everything together and respond to IRS. I have few questions:

1. Should I respond through CPA or can I respond myself? Is there anything that I should take care in particular while responding?
2. Has anybody any related experience... replies appreciated.

Desi · Post by **Desi** » Mon Feb 26, 2007 8:55 am

Vel,

The brokerage company has nothing to do with cost basis. All they do is remit to the company the Grant Price multiplied by number of shares exercised and the amount of taxes the company lets them know in exchange for the shares from the transfer agent.

You need to do the following:

Amend your taxes and include the transaction as a short term transaction. My earlier post shows you how to figure your cost basis and sale proceeds.

Respond to IRS. Tell them the following:

1. I did not include 1099-B because I received wrong advice from CPA.
2. I have now filed with IRS an amended return (for tax year 200z)on xx/xx/2007 which includes this 1099-B transaction.
3. The amended filing resulted in a refund of xx or resulted in a tax due of xx which was included.
4. Attached with this explanation is a copy of my amended return which I have already filed on the date xx/xx/2007.
5. I request that with the amended filing in now, this issue be closed.

Vel · Post by **Vel** » Tue Feb 27, 2007 2:14 am

Desi,

Thanks for the detailed explanation.
I reviewed the case you described.
Mine is slightly varied.

1. The company gave me 1000 options at face value of $4
2. After a year they got vested and I exercised all 1000 using cashless option at rate of $10 per share.
3. The total proceed was $10000. Subtracting broker?s commission of $100, the net proceed was $9900
4. The brokerage company sent me a check for $5900 (9900 ? 4000). The 4000 is the calculated cost (4 x 1000)
5. My company included 5900 as income in my W2 and deducted appropriate tax
6. The brokerage reported $9900 in 1099B

In the above case, I understand that I need to enter my 1099B entry proceeds as 9900 in schedule D.
What will be the cost basis. Thanks.

Desi · Post by **Desi** » Tue Feb 27, 2007 2:30 am

In the above case, your cost basis is 9900 and your sale proceeds are 9900. It still needs to be reported on schedule D.

The company showed 5900 as income. Now yopu are saying they showed additional tax deductions corresponding to this 5900. You did not pay them money for the taxes that they sent to IRS. Does this mean they pulled additional money out of your succeeding pay checks to pay for this tax?

Vel · Post by **Vel** » Tue Feb 27, 2007 2:46 am

Desi,
Thanks again for the reply.
The company didn't deduct the entire tax; they generated an ahodc earning slip and showed the 5900 as earnings and deducted Fed tax, SS and medicare withholdings.
When I filed my return, I owed tax.

pala69 · Post by **pala69** » Tue Feb 27, 2007 3:00 am

Not sure about the other tax software but Turbotax delux have features which inclused stock option and ESPP nad it is very easy to use they have exapmle for cost basis etc. I did sell some stock options in 2005 and had no problem prepareing through t Turbo tax