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Planning for Company Stock Options

In addition to providing defined contribution plans and defined benefit plans, many employers also provide stock option plans for employees. BUT, there are some tax issues to be aware of...

In addition to providing defined contribution plans and defined benefit plans, many employers also provide stock option plans for employees. In many cases, stock option plans are offered as incentives to retain key employees and top management. Stock options give the recipient the right to buy a certain number of shares within the company at a fixed price for a fixed number of years.

The price at which the option is provided is called the ‘grant’ price, typically the market price at the time the options are issued. Employees who receive the options hope that the market price will increase over time, as the difference between the sales price and the grant price of the options is the capital the recipient stands to receive. There are two primary forms of stock option programs, each with unique rules and tax consequences, non-qualified stock options (NSOs) and incentive stock options (ISOs).

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Incentive Stock Options (ISOs)

When an employee is granted stock options by their organization, they are granted the right to purchase the company's stock at a specified price over a specific period of time. These stock options qualify for favourable tax treatment under section 422 of the Internal Revenue Code.

Nonqualified Stock Options (NSOs)

This form of stock option does not qualify for favourable tax treatment under the Internal Revenue Code sections 422 or 423. These programs are often offered in the form of a payroll deduction, often at a discounted price. There are several advantages to participating in a stock option program, including:

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 They are typically easy to enrol in, and encourage ongoing investing
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 The quantity of shares purchased per pay periods is often flexible; you can specify a dollar amount to invest into the program over each pay period and can adjust it as desired

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Taxation Considerations

Both stock option types provide the opportunity to the individual to buy stock at a fixed price today for a defined number of years. When employees choose to buy the underlying stock, they are in effect 'exercising' the option.

For example, if an employee has the right to buy 100 shares of the underlying stock at $10 per share for 10 years, if the stock reaches $30 and the employee chooses to buy the stock, they will purchase the stock at $10 per share, selling the stock for $30 per share, with net proceeds of $20 per share. If the option is an NSO, the employee will pay tax on the $20 difference in price.

With an ISO, the employee pays no tax on exercising the option and the company does not get a tax deduction. If the employee holds the shares for two years after the grant and one year after exercising, the employee only pays tax on the difference between the exercise and sales price. But, if these conditions are not met, the options will be treated in the same fashion as the NSO.

For the differences in taxation, it is recommended that a tax advisor be consulted prior to exercising options.



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Planning for company stock options is a very important process not only from the investment impact but also you need a tax planning strategy. Jim Trippon of Trippon Wealth Management has over 30 years experience in working with America's wealthiest families in Planning for Company Stock Options and retirement planning. Jim is an expert at providing quality tax planning for retirement plans and providing excellent ideas on reducing your tax liability. Honest, practical and sound retirement planning advice is what makes Jim, The Advisor To America's Millionaires.