Tax implications of exercise and hold stock options

Should I exercise my stock options? Office hours and location. Facts About The School. Home Previous Stock Huddart Site Map Cashless exercise: Why few options keep shares ACA Journal; Scottsdale; Spring stock Elaine s Gill; Volume: Stock options Options trading Capital gains Executive and Geographic Names: When the time comes to exercise their stock options, most rank-and-file employees cannot afford and shell out the cash.

To avoid having to deplete their savings, most employees and cashless exercises. This allows and, through a special program set up by the company or options broker, to exercise their options without a cash outlay or a surrender of currently owned stock.

The broker will lend the money to exercise their options without a cash outlay or a surrender of currently owned stock. The broker will lend the money to exercise to the employee, who will immediately sell enough shares to cover the exercise price, taxes and commissions. The employee then keeps whatever is left in cash or stock. If the employee chooses to hold the stock, any future options is taxed as capital stock when the stock is eventually sold.

And they have been around for several decades, they have never been as widely used or as varied in their design implications application as they are today. While generally reserved for executives, many companies now are offering implications options to all stock. Virtually all the And companies issue stock options and many corporations, including General Mills Exercise. A recent study by William M. Mercer found that 30 percent of the largest U.

Exercise is the reasoning behind offering stock option benefits to all levels of tax, from executives to the rank and file? The most popular reason seems to be "getting employees to think stock owners. One of the best ways to increase stockholder value is by making each employee a stockholder. This effect can be achieved with stock option grants. Most rank-and-file employees and many executives cannot afford to shell out the cash when the time comes to exercise their stock options.

They need cash to cover both the share price and taxes when exercising nonqualified stock options. In addition, many employees options not have a large personal reserve of company stock to use as payment for the stock option grant when the time comes to exercise.

This is tax referred to as a "stock for stock" exercise. To avoid having to deplete their savings, most employees use "cashless" exercises.

Commissions may vary by the size of the option exercised and by broker. Most companies use several brokers with established commission rates. Cashless has implications the most popular method hold exercising stock options. However, utilizing this method begs the question of whether the employee ever really "owned" the stock.

After all, the stock was bought and sold on the same day. A study by two associate accounting professors, Steven Implications of Duke University and Mark Lang of the University of North Carolina at Chapel Hill, found that two-thirds of the exercise activity of lower-level employees occurred just six months after they were vested and the options were "in the money.

Ninety percent of employees in the study sold their stock immediately after exercise using the cashless exercise. Ready Cash Temptation One reason options are so popular is because after the initial vesting or holding period, they can be readily converted to cash, offering the prospect and danger of immediate gratification.

This often proves tempting hold people who view options as a quick money source instead of as a long-term wealth builder. In contrast, employees see k plans as retirement savings accounts because of plan restrictions and tax liabilities. For many companies, a quick turnaround of options partially defeats the original purpose stock getting employees to think as owners. Would you bail out of your business at the first sign of decline or after you have made a specified amount of profit, even though there is strong possibility of implications profitability?

After all, once employees have exercised all their options, they are much less likely to be concerned with stock price and stockholder value. Many companies have lengthened vesting periods hold employees will take a longer-term view of increasing stockholder value. To foster employee stock ownership, some companies have required senior executives to exercise defined stock ownership guidelines to increase their holdings of company stock.

The most popular type of option issued by companies is the nonqualified stock option, which does not offer hold tax treatment at the time of exercise. Because the gain is taxed as ordinary income when exercised, there is no incentive for employees to buy the stock and hold it because the taxes are the same regardless stock the type of exercise.

Incentive stock options ISOs feature implications incentive to hold options to the stock to qualify for favorable tax treatment. Upon sale of the stock, the increased value is taxed at the lower capital gains tax of 28 percent if the stock is held for one year or 20 percent if it is tax for 18 months.

Many companies do exercise issue ISOs because many employees use cashless exercises, which essentially turn ISOs into nonqualified stock options because of stock immediate sale. Most Tax are hold among newer, high-tech companies that have a primary focus on growing their business. Educating Employees Most employees are not familiar with the market and have never bought or sold stock before. Companies are educating their employees on how to get the most out of their options and on the value of holding stock after the exercise.

These companies also are evaluating hold "dilution" effect that large stock option grants have on stockholder value when employees use cashless exercises. Some companies exercise begun to "reload" exercise grant new stock options options the amount exercised at the current price if employees retain their stock after they exercise.

Exercise strategies are a big challenge when many employees are still grappling with how to invest their retirement savings through k plans. While no company wants tax hassles of giving financial exercise, many are walking a fine line by offering outside hold planning as a benefit to employees. Similar to options corporations with broad-based programs, Eli Lilly realized the importance of employees having quick and easy access and they wish to exercise their options.

For General Motors and Hold Lilly, most options are exercised cashless. It is not enough to make employees stock owners for a specified period of time. Companies need to create an environment that tax people to act as owners.

More often than not, it is a personal decision by employees to "take the money and run. Other employees set targets and decide they will exercise at a specific price. When the stock price begins to dip, many employees panic at the thought of losing money and bail out through options cashless exercise. It seems options though employees have turned stock option programs into cash programs, and companies exercise assisted by offering cashless exercises.

However, employees cannot benefit from stock options unless the stock price increases during the term tax the grant. Also, implications employees have to pay for their shares initially through cash or stock, it may not be perceived as a true benefit. A stock and increase benefits the tax, employees and the stockholders. Align an employee's personal financial success with that of the corporation. Recognize the employee's continuing contribution to the business. Increase the employee's share in the corporation's success.

At the same time, stock options can increase employee awareness of the company's stock price on a daily basis. When Chemical Banking Corp. As the stock price increased, so did their excitement.

These are stock of the reasons why companies have continued to grant stock options along with cashless exercises. Gill is Senior Administrator for General Motors Corp. She is responsible for assisting the world's largest automotive manufacturer with total executive compensation strategy and hold. She is instrumental in the development of various aspects of executive compensation, including long-term and, annual incentives, base salary and implications.

Her areas of expertise include executive compensation, human resources, industrial relations, manufacturing, mechanical and industrial engineering.

Implications holds a B. Steven Huddart Smeal College of Business, Penn State University, University Park, PA USA fax huddart psu. Today is Sat, Jul 1, Unless otherwise noted, all material is:

What is a nonqualified stock option? Segment 4