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Subject:   ISOs and NQSOs
Date:   Mon, 24 Sep 2007
From:   Trushar

Hello Mike,

During the first quarter of 2007, we exercised ISOs and NQSOs. The Option price was between $4 and $9 and the fair market value of the stock on the date of exercise was about $23. We sold the NQSO shares and kept the ISO shares, planning to hold them to qualify for long-term capital gain treatment just before our income tax returns for 2007 are due.

Currently the stock price is hovering around $13. Are there any tax advantages of selling all of the shares, and then buying them back at the current market price?

Thank you for any advice you can offer.

Answer

Date:   1 Feb 2008

Hello Trushar,

This is a good year-end planning reminder. This situation needs to be handled very carefully.

There is an "escape hatch" to avoid the alternative minimum tax when the value of stock falls after exercise. If the stock is sold during the year of exercise, ordinary income is reported for the excess of the selling price over the option price. (Internal Revenue Code Section 422(c)(2).) But be very careful. In order to qualify, the disposition must be a sale or exchange with respect to which a loss (if sustained) would be recognized to the individual. A loss would be disallowed under the wash sale rules if similar stock or an option (including having another employee stock option granted) was acquired during the period starting 30 days before the sale and 30 days after the sale.

This means you can't sell the stock and immediately repurchase it and receive this tax benefit.

Everyone who exercised an ISO early in the year should be reviewing their positions as we get close to the end of the year to determine whether to use the "escape hatch".

Good luck!

Mike Gray

For more information about incentive stock options, request our free report, Incentive Stock Options - Executive Tax and Financial Planning Strategies.

IRS Circular 230 Disclosure: As required by U.S. Treasury Regulations, you are hereby advised that any written tax advice contained in this answer was not written or intended to be used (and cannot be used) by any taxpayer for the purpose of avoiding penalties that may be imposed under the U.S. Internal Revenue Code.