Selling employee stock options taxes

Your source for data-driven advice on investing and personal finance. See how Wealthfront can help you reach your financial goals. I n the first part of this three-part serieswe discussed the four main taxes relevant to individuals.

For many start-up companies, the first money in comes from angel investors or the founders themselves in employee for preferred and common stock, respectively. In exchange for cash, investors perhaps through a limited partnership and founders receive shares of stock. The capital gains holding clock starts with the purchase of these shares, stock it stops upon disposition of the stock. The shareholder realizes a long-term gain if she holds her shares for more than a year and a short-term gain if she holds it for less.

Employees selling private companies are generally granted one of two types of stock options, which are taxed very differently:. Incentive stock options ISOs are usually only granted to the earliest employees. However, upon exercise you must add the spread between the strike price and the current fair market value of the stock to your income to calculate your potential alternative minimum tax AMT. This may or may not cause you to incur taxes AMT, as we explained in Part 1 of this series.

The good news is that if you actually pay AMT as a result of the ISO exercise, your tax return will generate a tax credit, which carries forward to future tax years. In any future year in which your regular tax exceeds your tentative minimum tax, you get to recoup your tax credit.

The most likely time for this to happen is in the year you sell the exercised ISO shares, assuming you hold them long enough to qualify for long-term capital gains. This can get a little tricky if your exercise and sale occur in two different tax years — but suffice it to say that the spread at time stock exercise will be treated as ordinary income. This income will be reported to you taxes extra wages in your stock stub but will not have any withholdings.

Nonqualified stock options NQSOs are normally granted to later-stage and higher-ranking employees in private companies.

Employers might like to issue NQSOs to later-stage employees because they offer certain corporate tax deductions that ISOs do not. If, on the other hand, you happen to be at a very early-stage start-up — and have no spread or a minimal spread at exercise — another strategy could be to exercise and hold your NQSOs, then hold the shares for more than a year after exercise.

This means they effectively exercise their option and immediately sell options underlying stock in the open market, leaving them with the options proceeds reduced selling their exercise price and applicable tax withholdings.

Note that taxes this is an ISO or an NQSO, the sale results in ordinary income. One critical difference to options is that NQSOs have income and payroll tax withholdings, while ISOs have neither. Therefore, employees who exercise and immediately sell ISOs will need to make a quarterly estimated tax payment on their gain in advance of taxes year-end tax filing. Instead of selling all options shares as described in the same-day sale example, some employees may choose to only sell enough shares to cover the income and payroll tax withholdings, such that they are left holding a portion of the shares.

The capital gains holding clock then begins on these shares and the future appreciation is subject to either long- or short-term capital gains treatment.

They can then hold the rest of their shares with the goal of achieving long-term capital gains treatment as described employee. Employees joining late-stage private companies or public employee often receive restricted stock units RSUs in lieu of, or in addition to, option grants. RSUs are granted with a vesting schedule, commonly four-year vesting with a one-year cliff. The value of the shares becomes taxable as stock income to the employee once the restrictions lapse and the shares become freely tradable.

At that time, the employee owns the shares and can either hold them taxes sell them. Note that the company will normally choose to satisfy the withholding requirement by taking back a portion of the vested shares and delivering the net shares to an account controlled selling the employee.

Regardless of the decision to sell or hold options net shares upon vesting, the employee has already paid ordinary income tax on the value of options shares at vesting and only the future appreciation in the shares will be subject to short- or long-term capital gains treatment.

For this reason, most employees choose to sell the employee and diversify the proceeds. And again, in case you missed it here is a link to Part 1 of the series. Toby Johnston CPA, CFP is employee partner with the Moss Adams LLP Wealth Services Practice. The material appearing in this communication is for informational purposes only and should selling be construed as legal, taxes, or tax advice or opinion provided by Moss Adams LLP.

This information is not intended to create, and receipt does not constitute, stock legal relationship, including, but not limited to, an accountant-client relationship. Although these materials have been prepared by professionals, the user should not substitute these materials for professional services, and should seek advice from an independent advisor before acting options any information presented.

Moss Adams LLP assumes no obligation to provide notifications of changes in tax laws or other factors that could affect the information provided. Wealthfront does not represent in any manner that selling outcomes stock herein will result in any particular tax consequence.

Wealthfront assumes no responsibility for the tax consequences to any investor of any transaction. Many young executives worry about triggering taxes by exercising options. But, as Kent Williams, founding…. Vanguard versus Wealthfront — how do the two compare? In this post, we compare the two services employee explain the relative advantages of Wealthfront. Path helps you prepare for your financial future, every step of the way. Please read important legal disclosures about this blog. This blog is powered by Wealthfront.

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Tags AMTemployee compensationIncentive stock optionsIPO lockupISOsmistakesNonqualified stock optionsNQSOsRSUsSilicon Taxesstock optionstaxes. About the author Toby Johnston CPA, CFP is a partner with the Moss Adams LLP Wealth Services Practice.

View all stock by Toby Johnston, CPA, CFP Questions? Explore our Help Center or email knowledgecenter wealthfront. Avatars by Sterling Adventures. Related Posts Improving Tax Results for Your Stock Option or Restricted Stock Grant, Part 1.

Improving Tax Results for Your Stock Option or Restricted Stock Grant, Part 3. Wrapping It All Up: Tax Strategies In this third and final part to our series…. Strategies For Selling Stock Post-IPO.

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Incentive Stock Options and Non Qualified Options