How to report sale of employee stock options

Under a § 423 employee stock option plan, you have taxable income or a deductible loss when you sell the stock. Your income or loss is the difference between the amount you paid for the stock (the option price) and the amount you receive when you sell it. You generally treat this amount as capital gain or loss, but you may also have ordinary income to report.
You must account for and report this sale on your tax return. You have indicated that you received a Form 1099-B, Proceeds From Broker and Barter Exchange Transactions . You must report all 1099-B transactions on Schedule D (Form 1040), Capital Gains and Losses , and you may need to use Form 8949, Sales and Other Dispositions of Capital Assets . This is true even if there's no net capital gain subject to tax.
You must first determine if you meet the holding period. You meet the holding period requirement if you don't sell the stock until the end of the:
The 1-year period after the stock was transferred to you, and The 2-year period after the option was granted.
If you meet the holding period requirement:
You can generally treat the sale of stock as giving rise to capital gain or loss. You may have ordinary income if the option price was below the stock's fair market value (FMV) at the time the option was granted.
If you don't meet the holding period requirement:
The ordinary income that you should report in the year of the sale is the amount by which the FMV of the stock at the time of purchase (or vesting, if later) exceeds the exercise price. Treat any additional gain or loss as capital gain or loss.
If you meet the holding period requirement but the option exercise price is below the FMV of the stock at the time the option was granted:
You report as ordinary income (wages) on line 7 of Form 1040, U. S. Individual Income Tax Return , the lesser of (1) the amount by which the stock's FMV on the date of grant exceeds the option price or (2) the amount by which the stock's FMV on the date of sale or other disposition exceeds the option price. Your employer should report the ordinary income to you as wages in box 1 of Form W-2, Wage and Tax Statement . If your employer (or former employer) doesn't provide you with a Form W-2, or if the Form W-2 doesn't include the income in box 1, you must still report the income as wages on line 7 of Form 1040 for the year of sale or other disposition. If your gain is more than the amount you report as ordinary income, the remainder is a capital gain reported on Schedule D (Form 1040) and, if required, on Form 8949.
If you don't satisfy the holding period requirement and sell the stock for less than the amount you paid for it, your loss is a capital loss but you still may have ordinary income.
You should receive a Form 3922, Transfer of Stock Acquired Through an Employee Stock Purchase Plan Under Section 423(c) , from your employer when the employer has recorded the first transfer of legal title of stock you acquired pursuant to your exercise of the option. This form will assist you in tracking your holding period and figuring your cost basis for the stock purchased through your qualifying plan.

How to avoid paying double tax on employee stock options.
Anyone who participates in an employee stock option or stock purchase plan at work could overpay their taxes — perhaps by a lot — if they don’t understand a reporting requirement that took effect in 2014.
Under the requirement, all brokers must report cost basis on Form 1099-B for stock that was both acquired and sold on or after Jan. 1, 2014, through an employee stock option or purchase plan in a way that could result in double taxation, unless the employee makes an adjustment on Form 8949. The new requirement does not apply to restricted stock awarded to employees.
“It’s very confusing and scary,” says Barbara Baksa, executive director of the National Association of Stock Plan Professionals. “The important thing is not to assume that the cost basis reported on Form 1099-B is correct. You have to have confidence in your understanding of how this works to report the adjustment and not be afraid the IRS will treat it as a mistake on your part.”
Stock compensation is common in the Bay Area, especially in tech. Employees who sold company stock last year should begin receiving their 1099s in mid-February. The IRS has not gone out of its way to warn taxpayers about this ticking time bomb. Employees should pay close attention to everything they get from their employer and brokerage firms and strongly consider consulting a tax professional.
Brokerage firms use Form 1099-B to report the sale of stock and other securities to customers and the IRS. Cost basis is what you paid for the stock, including commissions. Proceeds are what you got from the sale, after commissions.
In a normal stock sale, the difference between your cost basis and proceeds is reported as a capital gain or loss on Schedule D. End of story.
However, stock acquired under an employee option or purchase plan is different. At least some of your profit is considered compensation and taxed as ordinary income. It will be included as wages, in box 1 of your W-2 Form. But the sale also must be reported on Schedule D.
And therein lies the rub: Unless you adjust your cost basis, by adding in the compensation component, that amount will be taxed twice — as ordinary income and a capital gain.
From 2011 through 2013, brokers had the option of making this adjustment for the employee and reporting the correct cost basis on Form 1099-B. And most did.
Under the new rules, brokers cannot make this adjustment on shares acquired on or after Jan. 1, 2014, through an employee stock option or purchase plan. They can only report the unadjusted basis, or what the employee paid for the stock. To avoid double taxation, the employee must make an adjustment on Form 8949.
Warning: Do not use the box labeled “1g Adjustments” on Form 1099-B to make this adjustment; that is for something else entirely. The information needed to make the adjustment will probably be in supplemental materials that come with your 1099-B.
Let’s start with a simple example: Say you were granted an option to acquire stock in your company at $10 per share. (We will assume this is a nonqualified option; incentive stock options are a bit different but also fall under the new requirement.)
When the stock is at $30, you exercise your option and simultaneously sell the stock. You have a gain of $20. All of it is ordinary income.
“The company will withhold tax and report that $20 on your W-2 as income. The broker will issue a 1099 for the sale. It will include a cost basis of $10, what you paid for the stock. But your basis is really $30,” Baksa says.
To avoid paying tax on that $20 twice, you must make an adjustment on Form 8949.
What happens if you exercised the option in 2014, when the market price is $30, but hold onto the stock and sell it for $40 in 2015?
In this case, $20 will be added to W-2 for 2014, but you won’t get a 1099-B for 2014.
For 2015, you will get a 1099-B showing $10 in cost basis and $40 in sales proceeds. To avoid double taxation on the $20, you must make an adjustment on Form 8949. The remaining $10 will be taxed as a capital gain.
For shares acquired under an employee stock purchase plan, the adjustment depends on how long you hold the stock after purchase. The scenarios are too complex to give examples at this point.
Note that the new rules apply only to stock acquired in 2014 or later under these plans. It’s not clear what acquired means. Some brokerage firms are using the date a stock option was granted as the acquisition date; some are using the date a stock option was exercised. For stock purchase plans, the acquisition date is usually the purchase date, Baksa says.
In any case, for stock that was acquired under one of these plans before 2014, brokers have the option of reporting the right basis (adjusted) or the wrong basis (unadjusted). Not all brokers are reporting it the same way.
For consistency, some brokers, including E-Trade and Fidelity, will report the unadjusted basis for all shares sold in 2014 under these plans regardless of when they were acquired. Fidelity will include adjusted basis in a supplemental document.
Charles Schwab is taking one approach for stock options and another for stock purchase plans. It notes that options usually do not vest, or become available for sale, for at least one year after the grant date. As a result, very few customers sold stock in 2014 that was also granted in 2014. So for 2014, it will report adjusted basis for all shares acquired through options. For 2015 and thereafter, it will report unadjusted basis for all option shares.
For shares acquired under employee stock purchase plans, however, Schwab will report unadjusted basis for all shares, regardless of when they were acquired.
Intuit, the maker of TurboTax, says employees who use its tax-preparation software will be able to make the correct adjustments through the interview process. “Regardless of how the broker reports it, we are going to get it right,” says Bob Meighan, a vice president with TurboTax.
Bruce Brumberg, founder of Mystockoptions, said most people who sold stock acquired through option or purchase plans will have compensation income and need to make an adjustment on Form 8949 (unless the broker has made the adjustment). The only times they would not have compensation, and not need to make an adjustment, is if they:
•Exercised an incentive stock option and held it long enough to get a qualifying disposition (at least two years from grant date and one year from purchase).
•Exercised an incentive stock option and sold the stock for less than they paid.
•Sold stock acquired through a purchase plan for less than the purchase price in a qualifying disposition.
The new reporting requirements do not apply to restricted stock. Employees pay nothing for restricted stock. When it vests, the entire value on the vesting date is treated as compensation and added to their W-2 for that year.
Suppose an employee gets restricted stock that is worth $1,000 when it vests and $1,500 when it is sold. The $1,000 is treated as compensation and added to the employee’s W-2.
When the stock is sold, the broker will send a 1099-B showing sales proceeds of $1,500. It has never had to provide a cost basis on the 1099-B, and still doesn’t. Some might provide a cost basis and if they do, it is usually the adjusted basis, which is $1,000.

The taxation of stock options.
The taxation of stock options.
As an incentive strategy, you may provide your employees with the right to acquire shares in your company at a fixed price for a limited period. Normally, the shares will be worth more than the purchase price at the time the employee exercises the option.
For example, you provide one of your key employees with the option to buy 1,000 shares in the company at $5 each. This is the estimated fair market value (FMV) per share at the time the option is granted. When the stock price increases to $10, your employee exercises his option to buy the shares for $5,000. Since their current value is $10,000, he has a profit of $5,000.
How is the benefit taxed?
The income tax consequences of exercising the option depend on whether the company granting the option is a Canadian-controlled private corporation (CCPC), the period of time the employee holds the shares before eventually selling them and whether the employee deals at arm’s - length with the corporation.
If the company is a CCPC, there won’t be any income tax consequences until the employee disposes of the shares, provided the employee is not related to the controlling shareholders of the company. In general, the difference between the FMV of the shares at the time the option was exercised and the option price (i. e., $5 per share in our example) will be taxed as employment income in the year the shares are sold. The employee can claim a deduction from taxable income equal to half this amount, if certain conditions are met. Half of the difference between the ultimate sale price and the FMV of the shares at the date the option was exercised will be reported as a taxable capital gain or allowable capital loss.
Example: In 2013, your company, a CCPC, offered several of its senior employees the option to buy 1,000 shares in the company for $10 each. In 2015, it’s estimated that the value of the stock has doubled. Several of the employees decide to exercise their options. By 2016, the value of the stock has doubled again to $40 per share, and some of the employees decide to sell their shares. Since the company was a CCPC at the time the option was granted, there’s no taxable benefit until the shares are sold in 2016. It’s assumed that the conditions for the 50% deduction are satisfied. The benefit is calculated as follows:
What if the stock declines in value?
In the above numerical example, the value of the stock increased between the time the stock was acquired and the time it was sold. But what would happen if the share value declined to $10 at the time of sale in 2016? In this case, the employee would report a net income inclusion of $5,000 and a $10,000 capital loss ($5,000 allowable capital loss). Unfortunately, while the income inclusion is afforded the same tax treatment as a capital gain, it isn’t actually a capital gain. It’s taxed as employment income. As a result, the capital loss realized in 2016 cannot be used to offset the income inclusion resulting from the taxable benefit.
Anyone in difficult financial circumstances as a result of these rules should contact their local CRA Tax Services office to determine whether special payment arrangements can be made.
Public company stock options.
The rules are different where the company granting the option is a public company. The general rule is that the employee has to report a taxable employment benefit in the year the option is exercised. This benefit is equal to the amount by which the FMV of the shares (at the time the option is exercised) exceeds the option price paid for the shares. When certain conditions are met, a deduction equal to half the taxable benefit is allowed.
For options exercised prior to 4:00 p. m. EST on March 4, 2010, eligible employees of public companies could elect to defer taxation on the resulting taxable employment benefit (subject to an annual vesting limit of $100,000). However, public company options exercised after 4:00 p. m. EST on March 4, 2010 are no longer eligible for the deferral.
Some employees who took advantage of the tax deferral election experienced financial difficulties as a result of a decline in the value of the optioned securities to the point that the value of the securities was less than the deferred tax liability on the underlying stock option benefit. A special election was available so that the tax liability on the deferred stock option benefit would not exceed the proceeds of disposition for the optioned securities (two-thirds of such proceeds for residents of Quebec), provided that the securities were disposed after 2010 and before 2015, and that the election was filed by the due date of your income tax return for the year of the disposition.

How to report sale of employee stock options

If you receive an option to buy stock as payment for your services, you may have income when you receive the option, when you exercise the option, or when you dispose of the option or stock received when you exercise the option. There are two types of stock options:
Options granted under an employee stock purchase plan or an incentive stock option (ISO) plan are statutory stock options . Stock options that are granted neither under an employee stock purchase plan nor an ISO plan are nonstatutory stock options .
Refer to Publication 525, Taxable and Nontaxable Income , for assistance in determining whether you've been granted a statutory or a nonstatutory stock option.
Statutory Stock Options.
If your employer grants you a statutory stock option, you generally don't include any amount in your gross income when you receive or exercise the option. However, you may be subject to alternative minimum tax in the year you exercise an ISO. For more information, refer to the Form 6251 (PDF). You have taxable income or deductible loss when you sell the stock you bought by exercising the option. You generally treat this amount as a capital gain or loss. However, if you don't meet special holding period requirements, you'll have to treat income from the sale as ordinary income. Add these amounts, which are treated as wages, to the basis of the stock in determining the gain or loss on the stock's disposition. Refer to Publication 525 for specific details on the type of stock option, as well as rules for when income is reported and how income is reported for income tax purposes.
Incentive Stock Option - After exercising an ISO, you should receive from your employer a Form 3921 (PDF), Exercise of an Incentive Stock Option Under Section 422(b) . This form will report important dates and values needed to determine the correct amount of capital and ordinary income (if applicable) to be reported on your return.
Employee Stock Purchase Plan - After your first transfer or sale of stock acquired by exercising an option granted under an employee stock purchase plan, you should receive from your employer a Form 3922 (PDF), Transfer of Stock Acquired Through an Employee Stock Purchase Plan under Section 423(c) . This form will report important dates and values needed to determine the correct amount of capital and ordinary income to be reported on your return.
Nonstatutory Stock Options.
If your employer grants you a nonstatutory stock option, the amount of income to include and the time to include it depends on whether the fair market value of the option can be readily determined .
Readily Determined Fair Market Value - If an option is actively traded on an established market, you can readily determine the fair market value of the option. Refer to Publication 525 for other circumstances under which you can readily determine the fair market value of an option and the rules to determine when you should report income for an option with a readily determinable fair market value.
Not Readily Determined Fair Market Value - Most nonstatutory options don't have a readily determinable fair market value. For nonstatutory options without a readily determinable fair market value, there's no taxable event when the option is granted but you must include in income the fair market value of the stock received on exercise, less the amount paid, when you exercise the option. You have taxable income or deductible loss when you sell the stock you received by exercising the option. You generally treat this amount as a capital gain or loss. For specific information and reporting requirements, refer to Publication 525.