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Date:   19 Dec 2000
From:   Jeff

Hi Michael:

My friend recommanded your website in search of some ISO questions and I found it very easy to understand.

I do have one question of ISO tax related. Every employee who has our company stock options has an agreement with our company that 15% of stock shares exercised will be contributed to a company escrow account and the shareholders are still liable for the AMT tax of these shares. The escrow account was set up for lawsuits. My question is: do I really need to pay tax for that portion of shares no matter what it is for?

If it is true, what is the AMT preference for the following example?

Suppose I exercised 1000 shares at $101 with grant price $1. So, 150 shares go to the escrow account and I have 850 shares. What if I sell all 850 shares at $51 in the same year or just keep all shares to have them become long-term capital gain? No matter what happens that 15% is still in escrow.

Thanks for your response in advance.

Jeff

Answer

Date:   12 Feb 2001

Hello Jeff,

Hello Jeff,

I believe the shares being held in escrow is not considered a "restriction" that will postpone the recognition of the AMT preference. The shares are being held for your benefit in the event of a claim relating to some company negotiation.

1. If you sell 85% of the shares in the year of exercise for $51 per share, the ordinary income of $50 per share will be computed based on that amount. There will be no AMT adjustment for those shares.
   
   
2. If you hold the shares, you will report an AMT adjustment for them of $100 per share based on the fair market value on the date of exercise. You will receive a basis adjustment for those shares when computing the capital gain on the AMT schedule for the year of sale. Based on the excess of the regular tax over the AMT in the year of sale, you may be able to recover some of the AMT paid for the year of exercise as an AMT credit.
   
   
3. #2 above will apply for the shares held in escrow.

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.