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W-2 and Disqualifying Dispositions

W-2 and Disqualifying Dispositions

What’s on your W-2?

Tax season is near and there are a few things all companies must know in order to be prepared. A qualifying disposition refers to the transferring, selling, gifting or exchanging of stock before the ISO has satisfied its holding period. But what is included in a W-2 in connection with a disqualifying disposition of shares acquired under incentive stock options?

According to My Stock Options, if incentive stock options are sold, gifted or transferred within one year of the exercise date or two years off the grant date, it is considered a Disqualifying Disposition. This happens because the employee is losing the tax benefits they would otherwise have with qualified dispositions if they had not sold, transferred or gifted the ISO. This, however, does not apply to incentive stock options that are transferred to a joint account with a spouse, transferred to a spouse in the event of a divorce, transferred from account to account (both owned by the recipient), or after the employee’s death. These are not considered dispositions.

How does this affect an employee’s W-2? If they decided to take the disqualifying disposition road, the company will report it on their W-2. Keep in mind that the company is also not required withholding Social Security taxes (FICA) if the employee purchases the stock or any income tax when they sell the stock. At this point, it is not considered capital gains and it is taxed as a regular income, which the employee is required to report on a W-2.

As described in Incentive Stock Options by William Perez, a disqualifying disposition can be taxed in two ways, “There will be compensation income (subject to ordinary income rates) and capital gain or loss (subject to the short-term or long-term capital gains rates).” Here are five steps to figure out the tax calculations of a disqualifying disposition.  Have questions about your stock options? We’d love to help! Contact us today.

Stock Connections specializes in working with San Francisco Bay Area companies that are involved in mergers & acquisitions, are raising capital, or creating stock option or other equity plans. We help start-up, private and public firms become – and remain – SEC-compliant. Stock Connections’ services are designed to help both start-ups and established firms comply with SEC and other regulations in their equity compensation programs. If you or anyone you know is looking to get involved with any of the above, we encourage you to contact us today.

Image Credit: Phillip Taylor PT

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