If you go this route, you turn the of the stock options into actual cash you can use. Finally, you also have potential to use an 83 b election with NQSOs. You can likely check your company plan document to confirm whether this is available to you. If allowed, an 83 b election of non-qualified stock options allows you to exercise and pay tax on your pre-vested NQSOs. The goal of using an 83 b election is to turn what may be future price appreciation that would normally be taxed at ordinary income tax rates into a long-term capital gain. Of course, you need to discuss your specific situation with your accountant to evaluate the exact tax rates under each condition to determine if an 83 b election would make sense for you or not.

But in the meantime, we can get a better idea of whether an 83 b election is something to consider by taking some time to look more at normal taxation of NQSOs. If you have non-qualified stock options, you will generally pay ordinary income tax on the difference between the fair market value of the stock and your exercise price, multiplied by the number of shares exercised. This is commonly referred to as the bargain element. The bargain element generally appears on your W-2 for employees in the year of exercise and is subject to Social Security and Medicare wage taxes.

This amount is taxable whether or not you hold the shares post-exercise, or if you sell some or all of your shares right away. The fair market value when you exercise helps establish your cost basis in the stock. Your cost basis is what you paid for the stock, and future gain or loss calculated from the cost basis will be subject to the rules for capital gains tax.

Frequently Asked Questions

If the stock is held for one year or less and then sold, gain or loss from the cost basis at exercise will be a short-term capital gain or loss. If the stock is held for longer than one year, the gain if any will be subject to potentially preferential long-term capital gains treatment. Gernallyt speaking, you do not owe taxes when your non-qualified stock options are granted and you do not owe tax when they vest.

Eventually, assuming the options are in the money, you will likely exercise your options, realize the value, and potentially capture a profit. In our example, the taxable income is equal to:.

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Usually, deferring taxes is a good thing — but if you hold an appreciating stock, waiting to exercise non-qualified stock options likely means paying more in tax than had you exercised the shares early and held them. That brings us back to the 83 b election. As previously stated, non-qualified stock options are typically taxable in the year you exercise them.

This means that during the time between when the shares are granted, when they vest, and immediately prior to when they are exercised, no tax is due. With an 83 b election, you may choose to exercise your non-qualified stock options and pay income taxes prior to the option vesting, in what is commonly referred to as an early-exercise.

Understanding the 83(b) Election for Non-Qualified Stock Options – Daniel Zajac, CFP®

One reason to choose this route is that you hope for the spread between the exercise price and the fair market value to be lower now than it will be later. Assuming you exercise your options, elect 83 b , and file the requisite documents, you will be taxed on the spread at exercise. Any tax liability is simply taken out of your profits from the transaction. All in all, whether to take an 83 b election is something you need to decide for yourself in fact, your company might not even allow it, so check the fine print!

He has been in the financial services industry for over 15 years and has experience working at one of the largest international banking and financial services firms in the country.

Stock option planning: Generating value

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Share This. How Are My Stocks Taxed? What Is an 83 b Election? What Are the Advantages of Taking an 83 b Election? If the value is really low, and the taxes owed are not that great, you can make the election without having to pay much tax and start your capital gains holding period on the shares. Whether companies will choose or be able to make this available to employees is not clear yet.

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But if no one is buying and selling stock, as is the case in most startups, then the value of the stock—and thus any tax owed on it—is not obvious. In order to minimize the risk that a A valuation is manipulated to the benefit of the company, companies hire independent firms to perform A valuations, typically annually or after events like fundraising. Holloway Guide To Equity Compensation. Support the authors and the ad-free Holloway reading experience by purchasing it for instant, lifetime access plus a PDF download.

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