Stock options are key to startups. Despite some larger companies adopting restricted stock award plans, options are still the way to go for startups. They are a vital recruitment, incentive and retention tool.
All posts tagged Stock Options
Have you ever wished you’d coined a phrase? I wish I’d coined the phrase “curiouser and curiouser” from Alice in Wonderland. As time goes by, our laws and regulations and accounting pronouncements become, by virtue of amendments, inflation (without corresponding adjustments to the indices), interpretations, pronouncements, etc., so confused and conflicting that you have to be curiouser and curiouser just to understand how we got to where we are.
In the case of the deduction for stock options, there has been what many would consider to be a “great deal” going on for a long time. This is how it works. If a corporation grants a nonqualified stock option, it gets a deduction when that stock option is exercised in an amount equal to the amount by which the fair market value of the stock underlying the option exceeds the exercise price. This despite the fact that the corporation doesn’t have to outlay any cash for this spread. What a great deal! Many very profitable corporations have benefited greatly from what some would call a phantom expense. Think of a grinning kitty. This deduction has allowed many profitable corporations to plow more money into hiring, and arguably helped grow the economy immensely by encouraging corporations to align long-term shareholder value with worker incentives.
But now there is a bill that has been introduced in Congress (S. 1375) that would put a crimp on the fun. S. 1375 would limit the deduction to what corporations have taken as an expense for financial accounting purposes, and force the matching of the financial and tax treatments. What corporations deduct for financial accounting purposes is frequently less than what the spread and deduction turns out to be. Thus, S. 1375 would make granting nonqualified stock options less attractive to companies.
Stock Option Deductions
The issue is the baby of Sen. Carl Levin, and is currently co-sponsored by Sen. Sherrod Brown. According to the Joint Committee on Taxation, forcing the matching of the accounting and tax treatments would bring in around $25 billion in extra revenues over a 10 year period. Not a ton of revenue when you quantify it over trillions of dollars for sure, but every bit counts.
As the founder of a startup company, by the time you get to the point of filing a Section 83(b) election with the IRS, you will have most likely already bought a helmet to keep your brains from flowing freely out of your ears from the mindboggling number of details involved in starting a company. You have been counseled on what type of entity to form, where to incorporate, founder vesting schedules, and myriad other details. You have gotten all of your documents executed and in place. You have properly completed and filled out your Section 83(b) election. Now all you have to do is file it. You are just about done! The purpose of this post is to give you guidance on this last step.
There are few tax code sections with rules as stringent as Section 83(b). Along with the rules being very specific and time sensitive, not complying with them could cause a founder to owe substantially more income tax down the road than necessary. So, put the helmet on and let’s go.