This article will examine the nature of restricted stock and restricted stock units RSUs and how they are taxed. Depending on plan rules, if you decide not to make a Special Tax 83 b election, you have three options to meet your tax withholding obligation due at vesting:. Is it treated as Capital Gains or should it be liable to full income tax?
Employee Tax Treatment
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In summary, the Bill:. Lump Sum Agreements In Days. New Legislation In Depth Look: Worldwide Europe European Union U. Energy and Natural Resources. Food, Drugs, Healthcare, Life Sciences. Tax law requirements  mandate that the exercise price of a stock option not be less than the fair market value of the underlying shares at date of grant. Failure to comply with this requirement could result in significant adverse tax consequences for the employee under Section A.
Share valuations for a private company are an inherently uncertain matter. To minimize the exposure to adverse treatment under Section A, the exercise price for the option usually would be established based on an independent third party valuation. Because an option delivers value to the employee only to the extent that the fair market value of the shares at the time of exercise exceeds the option exercise price , it would be necessary for an option grant to cover a greater number of shares than a grant of RSUs or restricted stock, in order to deliver an equivalent economic value to the employee.
As a result, an option grant would mean more dilution for the investors as compared with an economically equivalent grant of RSUs or restricted stock. Capital gain treatment for an ISO is available only if the shares acquired on exercise are held for at least 1 year following the date of exercise of the option , and 2 years following the date of grant of the option. In the usual case, an employee holding an option on shares of a private company would not want to exercise his option until there is an IPO or other realization event, and will want to sell the shares he acquires on exercise of the option as soon as practicable after that event occurs, in order to a fund his payment of the exercise price for the shares, and b avoid loss of value in the shares in a highly volatile market that could bring a significant drop in share price prior to the end of the ISO-required holding periods.
If the employee does sell the shares before the end of the ISO required holding periods , the increase in value of the shares since date of grant will be taxed at ordinary income rates, instead of capital gain rates. You are commenting using your WordPress. You are commenting using your Twitter account. You are commenting using your Facebook account.
Notify me of new comments via email. Bartlett, Co-Chair of VC Experts A structure is creeping into the process of rewarding and motivating managements of public and private companies with equity awards. A grant of RSUs delivers full share value to the employee. It provides him not only with upside potential but also downside protection. He can realize value from the grant even if the date of grant value of the RSUs should later decline. In contrast, with an option grant the employee will realize value only if and to the extent that the shares covered by the option increase in value after the grant date.