102-8 Equity-Based Compensation Flashcards Preview

CFP 2 - Risk, Insurance, Emp. Benefits > 102-8 Equity-Based Compensation > Flashcards

Flashcards in 102-8 Equity-Based Compensation Deck (13)
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Stock options

Give the employee (usually an executive) the right to purchase a fixed # of shares of employer stock at a predetermined price over a stated period


Nonqualified stock options (NQSOs)

Not tax qualified

Grant date: not taxable

Exercise date: compensation income to employee; deduction for employer

Stock sale date: short-term or long-term capital gains depending on holding period


Bargain element

The difference between market value of the stock at any particular time and the option’s exercise price

Taxed at the date of the option’s exercise as W-2 compensation income

Employer receives deduction for the amount of the bargain element when the employee brings that amount into income


Incentive Stock Options (ISO)

-must be part of written plan approved by stockholders
-exercise date can’t be > 10 yrs after grant date
-exercise price can’t be less than market price at grant date
-max value of stock that can be exercised in 1 yr: $100k
-shares can’t be sold within 2 yrs of grant date or 1 yr of exercise date

Grant date: not taxable

Exercise date: AMT adjustment item to employee; no deduction for employer

Long-term capital gains if meeting special holding period rules


Alternative minimum tax (AMT)

The employee must report the bargain element of the ISO as of the exercise date as an AMT adjustment item


Cashless exercise of NQSOs and ISOs

Suitable for employees who don’t have enough cash to satisfy the exercise price and any other costs associated with exercising the option

Employee sells enough stock to cover the amount they need to purchase + income tax (to cover bargain element)


Employee stock purchase plans (ESPPs)

Provide employees with options to purchase employer stock through payroll deductions

-often limit amount that employee can purchase
-if plan meets requirements, no income tax implications to employees at either grant or exercise date

The price is typically 85% of the lesser of the price at the beginning of the accumulation period or at the end of the accumulation period


Restricted stock

NOT a stock option

Employer stock that’s forfeited by employee/exec of employment performance is not satisfactory or if employment terminated before a requisite period

Stock value not subject to income tax as long as the stock is subject to a substantial risk of forfeiture
When stock is no longer subject to substantial risk of forfeiture, the value of the stock is taxed as W-2 compensation income

Facts and circumstances test for substantial risk of forfeiture:
1. Employee doesn’t remain w/ employer for a specified period
2. Employee doesn’t meet certain sales or performance goals
3. Employee goes to work for a competitor
4. Employee works for a corporation that isn’t controlled by immediate family members


Section 83(b) election

Employee who receives restricted stock may elect to recognize the W-2 compensation income immediately rather than wait until the substantial risk of forfeiture expires

Must be made within 30 days of receiving

Any subsequent appreciation in the value of the stock is treated as a capital gain and may be taxed at lower capital gain rates when the stock is sold

If the exec makes the election and then forfeits the stock, he is not allowed a deduction of refund of tax paid on previously reported income


Junior class shares (JCSs)

A separate class of common stock whose voting and dividend rights are subordinate to the regular class of common stock issued by a corporation

Typically convertible into regular shares upon certain specified events

Taxed more favorably than NQSOs

Not taxed when shares are converted
Taxation deferred until sale of the regular shares, employee pays capital gain


Phantom stock arrangements

Used by closely held corporations that wish to reward their highly valued employees, but don’t want additional shareholders

Each year, employee/exec becomes vested in the shares, and lump-sum payments normally are made at the executive’s retirement or some other specified event
Payment made in cash

Employee taxed at income tax rates
Employer receives tax deduction


Stock appreciation rights (SARs)

Similar to phantom stock plans except SARS give the employee/exec a choice of when to exercise the right to share in the appreciation of the closely held company’s stock

Used heavily by closely held businesses that are unable to offer traditional forms of ownership, such as LLCs and S corps, which are restricted from having more than 100 shareholders


Gifting an NQSO

Employee recognizes no gain on the transfer to a family member or charity
May potentially remove the option and shares of stock from the taxable assets of the estate

Employee will have W-2 compensation income when either the family member or qualified charity exercises the option

If donee is a qualified charity, employee will be permitted a charitable deduction on the transfer date