Realizing Long-Term Capital Gains With Stock Based Compensation

Realizing Long-Term Capital Gains With Stock Based Compensation:

Below are certain strategies we have identified in this arena:

• It takes 18 months after the purchase date for ESPP stock purchases to qualify for long-term capital gains tax treatment. Holding on to them allows for the following scenarios:
• After an 18-month cycle (3 purchases), the arrangement allows for perpetual long-term gains – at the time of the 4th purchase, the 1st purchase is sold and any gains realized are long-term capital gains.
• For restricted stocks, ordinary income tax is paid already at the time of purchase of the shares. Sell such stock instead of the ESPP shares and the additional tax will apply to only the appreciated portion of the restricted stock sale.
• In case of exercised stock options that were held for more than a year, the tax on the difference between the strike price and the sale price will be long-term gains, which generally turn out to be better than ordinary income taxes in most situations. Preferring to sell such stock instead of ESPP shares has the benefit of long-term capital gains as opposed to ordinary income.
• Exercise stock options without selling when they are significantly in the money. This allows flexibility with regards to selling in a tax-optimized fashion at a later time.
• Sell restricted stock allocations as quickly as possible. As the tax is paid at the time of the stock purchase, it makes sense to realize cash from this type of compensation as quickly as possible as holding on has two significant negatives if the stock goes down from the time of purchase:
• It directly impacts your total compensation as the value of stock at the time of stock purchase is counted as part of your total compensation and taxed upfront.
• The tax was paid based on the higher purchase price and so the tax impact is higher.

The risk with all these strategies is the potential increase in exposure to company stock as a percentage of total assets. To mitigate this risk, a selling strategy that limits total exposure to company stock as a percentage of total assets to a range (typically 2-5%) based on an individual’s risk-profile can be used.

Also Note:There are some great free tax software packages on the market that can sort through the maze of Investment and tax questions.Investor tax laws can change from year to-year and it is critical to have quality up to date tax software to keep up with the changes.

Related Posts:

1. Flexible Spending Accounts (FSA) – Great Benefit with a few caveats! - 03/09.
2. Writing Covered Calls against Employer Stock Plan Shares (ESPP, Restricted Stock, and Stock Options) – A Primer - 03/09.
3. Employee Stock Purchase Plan (ESPP) and 401K Retirement Plan Annual Enrollment and Contribution Review - 12/08.
4. Employee Stock Purchase Plan (ESPP) - Immediate Selling Strategy - 4/08.
5. Realizing Long-Term Capital Gains With Stock Based Compensation - 04/08.
6. Stock Based Compensation Tax Optimization Strategies - 02/08.

Last Updated: 04/2013.