Capital Gain Treatment for Employee Stock Options

[Uncle Sam]

I don't deal with this type issue often so this is one time I need to ask for assistance here, and would greatly appreciate help on this. Thanks in advance.

A client sent me an e-mail asking when the clock ticks for calculation of time for capital gains - option grant date or option exercise date

" As part of my new job I receive option grants that vest over a period of time. The question i have is how are capital gains calculated when options are sold? Is the clock for long term capital gain treatment started when the options are granted or when the options vest?"

[Rapid Robert]

Are these ISOs or NQSOs? I believe only the statutory options (ISOs) are eligible for L/T cap gain treatment, and as I recall, sale needs to be at least two years after the grant date and at least one year after the exercise date. I don't think the vesting date has anything to do with it, except that prior to vesting, there may be some benefit to an 83(b) election. [edit - no, 83b is for non-vested stock received, not options].

And of course, ISOs are an AMT preference item, so there may or may not be AMT in the year of exercise (which establishes an AMT basis different from regular tax basis), and possibly a Min Tax Credit in a following year before sale.

[Uncle Sam]

Client wrote back to me that they are NQSOs. Does that automatically make it ordinary income and no cap gain opportunity?
And if it was an ISO - he'd have to wait 2 years after grant date or one year after exercise date, to be eligible for Long Term Cap Gain treatment?

[Rapid Robert]

"NQSOs. Does that automatically make it ordinary income and no cap gain opportunity?"

Correct, it is compensation subject to ordinary income tax and FICA tax, usually when exercised..

"ISO - he'd have to wait 2 years after grant date or one year after exercise date, to be eligible for Long Term Cap Gain treatment?"

Change the "or" to "and", then yes.

Also, you didn't ask, but the 83b election only applies to non-vested stock received, it is not used with options that have not been exercised.

[Uncle Sam]

Thank you so much Rapid Robert. You answered my question