Did you exercise selling stock options last year or sell restricted stock units?
Did you exercise stock options or restricted stock units (RSUs) in the last year? Do you ever get the feeling you overpaid your tax bill? Then your hunch might be correct.
What does it mean to excercise stock options?
Some people own stock and may not even understand what the term to excercise stock options means. Investopedia defines the term to excercise stock options as “… to put into effect the right specified in a contract. In options trading, the option holder has the right, but not the obligation, to buy or sell the underlying instrument at a specified price on or before a specified date in the future. If the holder decides to buy or sell the underlying instrument (rather than allowing the contract to expire worthless or closing out the position), he or she will exercise the option, and make use of the right available in the contract.”
Reporting Requirements to sell and excercise stock options
There has been changes to the reporting requirements for the exercise and sale of Options & RSUs virtually every year for as long as I can remember. The brokerage houses and payroll departments all report them differently. In most cases, the reporting of income from the exercise & sale of Options & RSUs should be on your W-2. This is because the income is tied to your employment. The proposition makes sense for the company because they can award their employees treasury stock at no cost to the company and there is a nice bonus reward for the employee. So far can we agree that everyone is happy?
Selling stock options, what changed?
Then this happens when acquiring and selling stock options. All brokers must now report cost basis on Form 1099-B on the sale of stock options after January 1, 2014, and this includes acquiring stock too. In a normal stock sale, the difference between the purchase price and the sale price is the capital gain. However, in the case of Options & RSUs at least some of the gain is considered compensation (and is already in your W-2 income). Under the new rules, the brokers are now required to report the ‘unadjusted gain’ on your 1099-B. The onus is then on you to make the correct basis adjustment. If you don’t correct the basis, you effectively pay tax twice on this income, once as ordinary income and once as capital gain. This could mean 25% – 33% Federal Income Tax + 5% – 12% State income tax times two means a 60% – 90% tax rate.
How can you tell if you paid too much when you sell stock options?
Every case is different but if you had a large stock award and a large capital gain in the same year you may have fallen prey these regulations. Don’t worry, you have three years from the due date of your tax return to file an amendment. (Don’t forget your state amendment)
What are the common issues when selling stock options and RSUs?
In my experience I have seen two other common pitfalls associated with options & RSUs. I have had many a client tell me that a stock was ‘given’ to them by their company; there is no such thing and incorrect reporting can result in the same double taxation as noted above. There is also the case where a taxpayer realizes that they will end up paying tax twice on options & RSUs so they simply don’t report the stock sales at all; this will result in a CP2000 letter from the IRS.
Do you suspect you overpaid for the excercise or sale of stock?
Finally, If you suspect you may have overpaid I would recommend you seek professional assistance in amending your Federal & State tax returns. Please feel free to please feel free to give me, Alex Franch, BS EA a call at 781.849.7200 if you have questions about your own tax return.
Let me know what you think.
Stock Option Sources and Resources
- Stock Options and the 101% “Tax”
- Alternative Minimum Tax
- Seniors With Medical Deductions Beware, Affordable Care Act Will Trump Them!
- Find Unclaimed Money
- Ignoring Retirement Needs?