Michael Gray, CPA’s Option Alert #119

An irregular alert for issues relating to employee stock options

December 6, 2013
© 2013 by Michael Gray, CPA
ISSN 1931-2768

(If you find this information valuable, please pass it on to a colleague!)

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Make your year-end planning appointment now.

Michael Gray will have very limited availability for the rest of 2013, so make your year-end planning appointment now. Call Dawn Siemer Monday, Wednesday or Friday at 408-918-3162.

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Congratulations to James Barrese!

Our client, James Barrese, was featured in an interview in the Business Section of the San Jose Mercury News (page B-6), on Saturday, November 30, 2013. James is the Chief Technology Officer at PayPal. The title of the article is “Wallet’s Days Numbered?” You can check it out at the web site www.mercurynews.com. Here is a link to the article – www.mercurynews.com/business/ci_24625197/chat-paypal-tech-innovator-james-barrese?IADID=Search-www.mercurynews.com-www.mercurynews.com. Congratulations, James!

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Does your group need a speaker?

We are seeking opportunities to speak before groups. Topics include recent tax developments, tax issues relating to employee stock options, how estate planning has changed recently, tax issues relating to alternative investments using retirement accounts, and marketing topics such as “How I created a public access television show broadcast on eleven Bay Area stations.” To make arrangements, call Michael Gray at 408-918-3161.

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Attention tax professionals! Michael Gray will give a two-day LIVE seminar on January 9 and 10.

Michael Gray, CPA will give a two-day live seminar on Thursday and Friday, January 9 and 10, 2014. The seminar is “Secrets of Tax Planning For Employee Stock Options”, celebrating an update of the book with the same name. The investment is $2,497 for the first person from a company and $1,247 for additional persons from the same company. Make your reservation by December 31 and we’ll reduce the fee by $200 to $2,297. The seminar will take place at the Marriott Courtyard hotel in Campbell, California. A copy of the book and lunch for each day will be included. Only nine seats are available. For details and to reserve your place, call Dawn Siemer at 408-918-3162 on Mondays, Wednesdays and Fridays no later than January 3, 2014.

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Attention employees with stock options! Michael Gray will give a LIVE lunchtime seminar on January 16.

Michael Gray, CPA will give a lunchtime seminar on Thursday, January 16, for employees with stock options. The title of the seminar is “Executive Tax Planning For Employee Stock Options”. The investment is $97 per person, and includes a copy of the book by the same name. The seminar will be located at the Three Flames restaurant at 1547 Meridian Ave. in San Jose, California. Lunch is included. Reservations are required. Call Dawn Siemer at 408-918-3162 on Mondays, Wednesdays and Fridays no later than January 13, 2013.

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Attention employees with stock options! Michael Gray will give a LIVE telephone seminar on January 17.

For those who can’t come to the in person seminar on January 16, Michael Gray will give a telephone seminar covering the same information, “Executive Tax Planning For Employee Stock Options”, at 1 p.m. Pacific Time. The investment is $97 per person plus any telephone long distance charges (not a collect call nor 800#), and includes a copy of the book by the same name. Call Dawn Siemer at 408-918-3162 on Mondays, Wednesdays and Fridays for reservations no later than January 13, 2013.

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Fourth quarter estimated tax payment for non-corporate taxpayers is due January 15.

The final estimated tax payment for individuals and calendar-year estates and trusts is due January 15, 2014. Remember California taxpayers with taxable income of $1 million or more must pay their estimated taxes using the current year’s facts. California passed a retroactive tax increase in the last election. There is no penalty for not paying the additional tax with your 2013 estimated tax payments, but you might want to do it for a deduction on your 2013 federal income tax return. Watch the alternative minimum tax. See your tax advisor.

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Your Congressman may not be your friend.

Among the ideas for “tax reform” being discussed in Congress is disallowing the employer deduction for ordinary income reported by employees for the exercise of a nonqualified stock option, employer stock grants and disqualified dispositions of stock received by exercising an incentive stock option or from a employee stock purchase plan.

This would be another “nail in the coffin” for employee stock benefits, which is a goose that has laid many golden eggs for our country and has helped to create wealth from brain power for people not from the privileged class. In other words, employee stock options have helped make the American Dream come true for many Americans who didn’t inherit wealth and aren’t business owners.

If you want to preserve the tax benefits of employee stock benefits, call or write your representatives in Congress.

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If you exercised ISOs during 2013, should you use the “escape hatch”?

Remember if you exercised ISOs during 2013 and didn’t sell the stock, your AMT adjustment will be based on the fair market value of the stock on the date of exercise. However, if you sell the stock before the end of the year of exercise, the AMT adjustment is eliminated. Ordinary income is reported for the excess of the selling price over the option price. I call this strategy “the escape hatch.”

For example, Jean Employee exercised an ISO for 1,000 shares of XYZ stock on March 1, 2013. The fair market value of the shares on March 1, 2013 was $55 per share and the option price was $5 per share. If Jean didn’t sell the stock, she would report additional AMT income of $55 – $5 = $50 X 1,000 shares = $50,000. On December 15, 2013 Jean sells the stock for $15 per share. The AMT adjustment is eliminated and Jean reports $15 – $5 = $10 X 1,000 shares = $10,000 of ordinary income for regular tax and AMT.

There is an important requirement to get this tax benefit. A loss would have to be “allowable” if the stock was sold at a loss. A common transaction that would disqualify an escape hatch is a wash sale. A wash sale happens when replacement shares or an option to acquire replacement shares are acquired during the period 30 days before or 30 days after the sale.

For example, if Jean purchased 1,000 shares of XYZ Software for $16 per share on December 10, 2013, she would still have a disqualifying disposition of the ISO shares, but she would have $50,000 of ordinary income because the escape hatch wouldn’t apply. Her short-term capital loss of $15 – $55 = $40 X 1,000 shares = $40,000 would be disallowed as a current deduction. The disallowed loss would be added to the tax basis of the replacement shares. Therefore, the tax basis of the replacement shares would be $16 + $40 = $56 X 1,000 shares = $56,000.

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IRS issues final regulations for 3.8% net investment income surtax.

A 3.8% federal “Medicare” surtax on net investment income for high income (Modified AGI over $250,000 for married persons filing joint returns, $200,000 for singles) taxpayers was enacted as part of Health Care Reform legislation in 2010 and became effective January 1, 2013. Proposed regulations explaining the tax were issued during December 2012 and proposed Form 8814 has been issued by the IRS without instructions.

The IRS issued final regulations on November 26, 2013. The regulations aren’t effective until January 1, 2014.

The details of the tax and the regulations are too complex for me to explain here. You really have to consult with a tax advisor to determine how the rules apply for your situation.

A highlight in the IRS’s explanation is a “real estate professional” won’t automatically qualify net rental income as business income exempt from the tax. The IRS has created a 500-hour safe harbor test to meet the trade or business requirement. See your advisor for details.

The IRS removed the rules for sale of an interest in a partnership or S corporation from the final regulations and issued new guidelines in proposed regulations. The new guidelines look to the passive activity rules for classifying gains. More details were added relating to liquidating distributions from partnerships, such as payments to retiring partners.

(T.D. 9644, November 26, 2013, REG-130843-13, December 2, 2013.)

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Do you have unrealized capital losses?

Since the stock market has done so well, fewer individuals are holding stock that has declined in value. If you do, consider selling it before the end of the year. The capital losses can offset any capital gains that you have plus an additional $3,000 can be used to offset other taxable income. Remember the wash sale rule. The loss is disallowed if you buy the same security during the period from 30 days before to 30 days after a sale at a loss.

This strategy is especially important for high income individuals who are subject to the 3.8% net investment income tax.

Should you make additional tax payments before December 31? State estimated tax payments and early property tax payments made by December 31 are generally tax deductible for the regular tax. However, many people are finding they are subject to the alternative minimum tax. Deductions for taxes (and miscellaneous itemized deductions) aren’t allowed for the alternative minimum tax, so there could be no benefit for a tax prepayment. A tax advisor can project your tax picture to determine if the AMT will apply. Turbo Tax and other tax preparation software can also be used to make the computations.

Should you donate appreciated publicly traded stock? It’s the season for giving. Many of us make extra donations during December to share our bounty with others. Appreciated publicly-traded stock that has been held for more than a year is an ideal asset for a donation. Under the Internal Revenue Code, the long-term capital gain is excluded from taxable income and the charitable contribution deduction is the fair market value of the stock, so there is a double tax benefit. Also, publicly traded stock isn’t subject to the appraisal requirements that apply for other property. It’s a win-win-win! Remember to get a good acknowledgement letter to document the donation, including a statement that “no goods or services were received in exchange for the donation”.

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Should you make additional tax payments before December 31?

State estimated tax payments and early property tax payments made by December 31 are generally tax deductible for the regular tax. However, many people are finding they are subject to the alternative minimum tax. Deductions for taxes (and miscellaneous itemized deductions) aren’t allowed for the alternative minimum tax, so there could be no benefit for a tax prepayment. A tax advisor can project your tax picture to determine if the AMT will apply. Turbo Tax and other tax preparation software can also be used to make the computations.

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Should you donate appreciated publicly traded stock?

It’s the season for giving. Many of us make extra donations during December to share our bounty with others. Appreciated publicly-traded stock that has been held for more than a year is an ideal asset for a donation. Under the Internal Revenue Code, the long-term capital gain is excluded from taxable income and the charitable contribution deduction is the fair market value of the stock, so there is a double tax benefit. Also, publicly traded stock isn’t subject to the appraisal requirements that apply for other property. It’s a win-win- win! Remember to get a good acknowledgement letter to document the donation, including a statement that “no goods or services were received in exchange for the donation”.

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Community public access television needs our help

As you can see below, public access television is a vital part of our educational outreach to various communities. These are usually nonprofit, charitable organizations, like public television stations. Unlike those stations, most of the programming for the public access stations comes from local producers.

This programming includes the local arts, productions by students at local schools, community outreach by churches, independent local producers discussing current social issues, educational programming by local providers like ourselves and much more. In other words, public access television makes a unique, important contribution to the communities it serves.

With the difficult times we are experiencing, many public access stations are facing severe financial challenges, and might not survive without more community financial support. I urge you to consider making a donation to your local public access television station. Here is a link for a list of public access television stations in California: http://www.communitymedia.se/cat/linksca.htm.

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Financial Insider Weekly broadcast schedule for December and January.

Financial Insider Weekly is broadcast in San Jose and Campbell on Fridays at 9:30 p.m., Pacific Time. You can watch it on Comcast channel 15 for San Jose and Campbell. The show is broadcast as streaming video at the same time at www.creatvsj.org.

Here are the scheduled interviews for December and January:

December 6, 2013, Greg Carpenter, BTI Group Mergers & Acquisitiions, “Preparing to sell a business”
December 13, 2013, Greg Carpenter, BTI Group Mergers & Acquisitions, “Buying a business”
December 20, 2013, attorney James V. Quillinan, Hopkins & Carley, “Should a family trust be terminated considering recent tax law changes?”
December 27, 2013, Peter Moss, Wymac Capital, Inc., “Mortgage market developments”
January 3, 2014, Don Pollard, CLU, Advanced Professionals, “How Health Care Reform is progressing for individuals”
January 10, 2014, Hilary Martin, CFP®, The Family Wealth Consulting Group, “Planned saving to reach your financial goals”
January 17, 2014, Lori Greymont, CEO, Summit Assets Group, “Residential real estate investing in Atlanta, Georgia and Birmingham, Alabama”
January 24, 2014, Lori Greymont, CEO, Summit Assets Group, “Different ways to invest in real estate”
January 31, 2014, Raymond Sheffield, attorney at law, Sheffield Law Office, “Charitable remainder trusts”

Financial Insider Weekly is also broadcast as follows:

  • Monday at 1:30 p.m. in San Mateo County on PenTV, Comcast Channel 26 and Astound Channel 27
  • Monday at 4:00 p.m. and 7:00 p.m. Pacific Time on cable channel 19 in Morgan Hill and broadcast on the internet at the same time as streaming video at www.mhat.tv
  • Mondays at 6:30 p.m. on Midpeninsula Media Center, Comcast Channel 28 in Palo Alto, East Palo Alto, Stanford, Menlo Park & Atherton
  • Monday at 7:30 p.m. on Comcast channel 15 in Saratoga
  • Tuesdays at 2:30 a.m. and 12:30 p.m. on Midpeninsula Media Center, Comcast Channel 28 in Palo Alto, East Palo Alto, Stanford, Menlo Park & Atherton
  • Tuesday at 4:00 p.m. and 7:00 p.m. Pacific Time on cable channel 19 in Morgan Hill. Broadcast on the internet at the same time as streaming video at www.mhat.tv
  • Wednesdays at 6:00 p.m. on Comcast channel 26 in Santa Cruz County and on Charter Communications Channel 72 in Watsonville and Capitola
  • Wednesday at 8:00 p.m. on Comcast channel 28 in Hayward, Alameda and Fremont and on AT&T U-Verse Channel 99, Hayward public access TV 28 in California
  • Fridays at 2 p.m. on Comcast channel 26 in Santa Cruz County and on Charter Communications Channel 72 in Watsonville and Capitola
  • Friday at 1:30 p.m. in San Mateo County on PenTV, Comcast Channel 26 and Astound Channel 27
  • Friday at 3:30 p.m. on KCAT, Comcast channel 15 in Los Gatos
  • Friday at 4:00 p.m. on KMTV cable channel 15 in Cupertino, Los Altos and Mountain View
  • Friday at 6:00 p.m. on Comcast and Astound channel 29 in San Francisco. Online streaming video at www.bavc.org, “public access TV”
  • Friday at 8:00 p.m. on Comcast channel 28 in Hayward, Alameda and Fremont and on AT&T U-Verse Channel 99, Hayward public access TV 28 in California
  • Saturdays at 9:00 a.m. and 6:00 p.m. on Midpeninsula Media Center, Comcast Channel 28 in Palo Alto, East Palo Alto, Stanford, Menlo Park & Atherton
  • Saturdays at 1 p.m. on Comcast channel 26 and AT&T U-verse channel 99 in Marin County

Past episodes of Financial Insider Weekly are posted on YouTube. One way to watch them is to go to our web site, www.financialinsiderweekly.com, and click on “Past Episodes.”

Let me know any ideas that you have for topics or guests. Guests will usually have to be located in or near the Silicon Valley in California.

Hope you can watch or record the show. Please tell your friends about it!

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Questions and Answers

Michael Gray regrets he can no longer personally answer email questions. He will answer selected questions in this newsletter.

For your questions about dependent exemptions, see IRS Publication 501 at www.irs.gov.

Question

What happens if a nonqualified option is exercised and converted to stock; the stock is held for five days and then sold. Would the income from the sale of the stock be a short term capital gain, which can then be offset using short-term capital losses from other stock sales?

Would the ordinary income from the exercise of the nonqualified option still be reported on Form W-2 for the year of exercise?

Answer

I’m sorry, but holding the stock doesn’t convert the gain from exercising a nonqualified stock option to a short-term capital gain. Ordinary income will still be reported on Form W-2.

See the books mentioned at www.stockoptionadvisors.com or the Special Report, Nonqualified Stock Options – Executive Tax and Financial Planning Strategies at www.stockoptionadvisors.com/non-q_stock.shtml.

Also, consider attending our in person or online seminars about Tax Planning for Employee Stock Options on January 16 or 17, 2014, mentioned earlier in this newsletter.

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Follow me on social media!

If you enjoy Twitter, please follow me at twitter.com/michaelgraycpa. I would especially appreciate retweets of our messages announcing episodes of Financial Insider Weekly.

I’m also on Facebook and Linked In. You can also follow me on other social media sites, www.facebook.com, www.linkedin.com/in/michaelgraycpa, and Google+.

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Check out my blog.

I have also started a blog at michaelgraycpa.com. Check it out!

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Do you know about our other newsletters?

For general tax developments, tax planning ideas, business development ideas and book reviews, subscribe to Michael Gray, CPA’s Tax & Business Insight.

We are now offering our real estate tax newsletter, Michael Gray, CPA’s Real Estate Tax Letter, free of charge. Like this newsletter, we will talk about new developments, have reports on special tax concerns, and answer questions and answers. To subscribe and read a sample issue, visit realestatetaxletter.com.

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Consult with a tax advisor

For our readers who aren’t tax advisors, this newsletter is intended to alert you about tax issues that could affect you. It is not a substitute for advice from a professional tax advisor. You will find that getting advice from a qualified advisor is a worthwhile investment.

Tax advisors should view the newsletter as an alert to become aware of issues relating to employee stock options for further research and study.

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Subscribe to Michael Gray, CPA’s Option Alert!

To receive the next issue of Michael Gray, CPA’s Option Alert with more employee stock option tax developments and answers to questions from our readers automatically via email, subscribe by filling out the form below.

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(Michael Gray is the author of Secrets of Tax Planning For Employee Stock Options, Stock Grants and ESOPs.)

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