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What are the tax implications of exercising options?
What are the tax implications of exercising options?
Yin Wu avatar
Written by Yin Wu
Updated over 6 months ago

Options gives you the right to buy shares in a company at a pre-determined price. The purpose of this article is to provide a brief summary of the tax consequences of exercising your option. This explanation is no substitute for personal tax advice.

The taxes associated with options exercising depend on the type of options exercised. There are two types of options: Incentive Stock Options (ISO) and Non-Qualified Stock Options (NSO).

The type of option you are exercising can be found on the option profile page next to Option Type.

Incentive Stock Options (ISO)

Incentive Stock Options can only be given to employees and are more tax favorable than NSOs. The favorable tax treatment for ISOs is limited. Options that cover the first $100,000 of exercisable shares in any calendar year qualify for ISO treatment. The excess over $100,000 receives NSO treatment..

  1. No taxes at time of exercise - Taxes are reported at the time of selling the shares. If you own the shares more than two years, the shares are taxed at capital gains rates (0 to 23.8%) rather than regular income tax rate. However, because of the tax benefits with ISO, you may be subject to Alternative Minimal Taxes in the year that you exercise your options.

  2. Limited to $100k in shares that become exercisable for each calendar year

Non-qualified Stock Options (NSO)

NSOs are taxed at the time of exercise and at the time of sale. NSOs can be given to non-employees, such as advisors or contractors.

  1. Taxes at the time of exercise - Shares that result from exercising an NSO are taxed as ordinary income at the time of exercise. The amount taxed is equal to the Fair Market Value (FMV) - Exercise Price (strike price) * number of shares. If you are an employee or former employee of the Company, this amount is subject to withholding for income and payroll taxes.

  2. Early exercise and unvested shares - If you are early exercising an NSO to purchase non-vested shares, you will not be taxed at the time of exercise if you do not submit an 83(b) election. Instead, you will be taxed when the shares vest.

    1. 83(b) election - 83(b) elections allows you to pay taxes on the total value of the shares you will receive at the time of the exercise. Pulley will generate an 83(b) election for you and it is your responsibility to submit the 83(b) election.


      YOU MUST FILE A SECTION 83(b) ELECTION WITH THE INTERNAL REVENUE SERVICE WITHIN 30 DAYS AFTER THE NOTICE OF STOCK OPTION EXERCISE IS SIGNED. The 30-day filing period cannot be extended. If you miss the deadline, you will be taxed as the Purchased Shares vest, based on the value of the shares at that time. (See above.) The template for making the 83(b) election will be generated by Pulley and available in your account. Signed copies must be filed with your Company.

Resources:

  1. Intuit guide on exercising options: https://turbotax.intuit.com/tax-tips/investments-and-taxes/incentive-stock-options/L4azWgfwy

  2. Cooley Go Guide on NSO early exercisable options: https://www.cooleygo.com/early-exercisable-stock-options-what-you-need-to-know/

  3. Wealthfront article on 83(b) elections: https://blog.wealthfront.com/always-file-your-83b/

Pulley is not responsible for remitting or calculating the taxes affiliated with exercising options. This article is provided only for informational proposes. Pulley does not provide tax, accounting, or legal advice. We recommend consulting with your tax and legal advisor regarding the implications of exercising your options.

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