Equity Compensation Advisor

As a follow up from last week’s blog, Overview of Employee Stock Purchase Plans (ESPPs), I would like to discuss the taxation of ESPPs.

Under most ESPPs, an employee that participates in the plan makes their purchases of company stock through payroll deductions.  All of the purchases are made with after tax dollars.  As mentioned last week, if the plan is a qualified 423 Plan ESPP, the employee can receive special tax treatment on the purchased shares.

Because the shares are purchased with pre-tax, at the time of purchase, the employee does not report any income.  The tax occurs once the shares are sold.  The challenge is determining whether the shares sold are considered a qualifying sale.  A qualifying sale occurs when a disqualifying disposition is avoided.

How does an employee avoid a disqualifying disposition?  Simply put, the employee must meet two (2) requirements.
1.   No disposition occurs within two years from the grant date, i.e., the beginning of the offering period.
2.   No disposition occurs within one year after the shares are transferred to the employee.

If the employee meets this criteria, they can avoid a qualifying sale when the amount of income they would report would be the lesser of the following two amounts:
•    The difference between the fair market value of the shares on the date of disposition and the amount paid to acquire the shares.
•    The bargain element at the beginning of the offering period.

What is the Bargain Element?  The bargain element is the difference between the fair market value of the stock at the beginning of the offering period and the price that would have been paid for the stock if it were purchased at the beginning of the offering period, versus over a period of time.  This usually is the 15% discount the company offers.

Dan’s Moral: Understanding the holding period needed to avoid a disqualifying disposition could save a lot in taxes.

• Please be sure to Subscribe to be automatically notified of  future published blogs

For more information on Dan Langworthy and Executive Capital, LLC you can also visit our website: http://www.executivecapitalmn.com and view Dan’s profile on Linkedin http://www.linkedin.com/in/danlangworthy

Securities and advisory services offered through LPL Financial, a Registered Investment Advisory, Member FINRA/SIPC

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.

• Please be sure to Subscribe to be automatically notified of  future published blogs

For more information on Dan Langworthy and Executive Capital, LLC you can also visit our website: http://www.executivecapitalmn.com and view Dan’s profile on Linkedin http://www.linkedin.com/in/danlangworthy

Securities and advisory services offered through LPL Financial, a Registered Investment Advisory, Member FINRA/SIPC