Overview of Employee Stock Purchase Plans (ESPPs)
An ESPP is a program that allows the employees of a company to buy stock in that company. Usually the employees purchase the stock through a payroll deduction.
ESPPs can be either qualified or non-qualified. A qualified ESPP is designed to receive special tax treatment in section 423 of the Internal Revenue Code. They are sometimes referred to as 423 Plans. If a company offers a non-qualified ESPP plan it is usually to avoid some of the restrictions placed on the qualified (423) plan.
There are three main requirements for an ESPP to be classified as a 423 Plan:
1. Available to all employees:
The main reasons why a 423 plan would not include certain employees would be because the employee has worked less than two years for the company or works less than 20 hours per week.
2. Discounts up to 15%:
A 423 plan can offer the employee a discount of up to 15% of the purchase price of the stock.
3. $25,000 Limit:
A participant in the 423 plan may not buy more than $25,000 worth of stock in any calendar year. The $25,000 is based on the value of the stock at the start of the offering period and does not include the 75% discount if it is offered.
Here is an example:
An employee works for a company that has a 12 month offering period. Under the agreement, the employee can purchase shares of stock for 85% of the lower of the price at the beginning of the offering period. At the beginning of the offering period the stock is at $40/share and at the end of the offering period the stock is trading at $30/share.
– In this example the participants purchase price of the shares would be $25.50/share (80% of $30/share).
Remember, the maximum amount the participant is allowed to buy is $25,000 worth of the stock at the beginning of the offering period (625 shares, $25,000/ $40/share).
Next week I will be discussing the tax treatment of ESPPs.
Dan’s Moral: ESPPs are a convenient way to own stock in the company you work for, as well as getting the shares at a discount if a 423 plan is offered.
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