Michael Gray, CPA’s Option Alert #121

An irregular alert for issues relating to employee stock options

February 7, 2014
© 2014 by Michael Gray, CPA
ISSN 1931-2768

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

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Tax season is here!

We have already started receiving tax projects from clients. Thanks for getting your information here early! If we sent you instructions for the Tax Notebook organizer and we prepared income tax returns for you last year, you should have information to log into the site. If you have any questions relating to this, call Dawn Siemer on a Monday, Wednesday or Friday at 408-918-3162.

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Make your tax return preparation interview appointment now.

Most personal interview appointments for preparing 2013 individual income tax returns will be scheduled in February. Many clients send their information without having an interview, but if you need that personal attention, you should schedule your interview appointment now. Call Dawn Siemer Monday, Wednesday or Friday at 408-918-3162.

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Don’t report taxable income twice!

A common error for employees who exercise employee stock options is to report their income twice. Ordinary income from exercising a non-qualified stock option or from the disqualified disposition of stock received from exercising an incentive stock option should be reported by the employer on Form W-2. The ordinary income amount is added to the tax basis (cost for computing gain and loss on your income tax return), reducing or eliminating the gain reported for the sale of the stock. Brokerage companies can also miss this adjustment on the information return for the sale. This is especially a common error for employees who skip the “interview mode” when preparing their own income tax returns using software like TurboTax.

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Remember to report the sale of option stock.

Employees who exercise their stock options and immediately sell the stock sometimes omit reporting the sale of the stock. They figure the income is already reported on their W-2 form. They are essentially right, but the IRS “matches” the income reported on income tax returns with information returns for the sale of securities issued by brokerage companies. See the above information, “Don’t report taxable income twice!” If you add the option price to the ordinary income reported for the nonqualified stock option exercise or disqualified disposition of ISO stock resulting from an exercise and immediate sale, the cost should be equal to or slightly more (because of selling expenses) than the sales price of the stock.

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Watch reporting qualified sales of ISO stock.

A common error for employees who make a qualified disposition of ISO stock is to add the AMT income reported for the year of exercise to the cost of the stock. (A qualified sale is made more than two years after the grant of the ISO and more than one year after the exercise of the ISO.) Employees rationalize they have already paid income taxes for that income. The tax they paid was on the alternative minimum tax schedule, not the regular tax schedule, so there is no regular tax basis adjustment for the exercise.

The mechanism for recouping some of the AMT paid when the ISO was exercised is the minimum tax credit, reported on Form 8801. A second AMT Schedule D is prepared for the year of sale with the basis adjustment added on the AMT Schedule D for the sale of the ISO stock.

Does this make your head spin? Maybe you should hire someone like us who understands this to prepare your income tax returns.

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Remember to include a copy of your Section 83(b) election with your tax return.

A Section 83(b) election is made to disregard whether property received is nonvested and accelerate the taxability of ordinary income. For stock received from exercising nonqualified stock options or restricted stock (but not RSUs), ordinary income is reported sooner, hoping future appreciation of the stock will be taxed at lower long-term capital gains rates.

The election also is effective for AMT reporting for the exercise of an ISO.

The election must be sent to the IRS within 30 days after exercising an NQO or receiving restricted stock. A copy must also be provided to the employer and another copy must be attached to the income tax return for the year the election is made.

Remember to include the election form with your income tax return. Some tax software allows you to send a PDF of the election with an efiled tax return. Otherwise, if you efile, I recommend sending the form with Form 1040X (Amended Income Tax Return) for association with the tax return.

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IRS allows Section 83(b) election when copy was omitted with an income tax return.

A taxpayer timely submitted a Section 83(b) election to the IRS and gave a copy to the taxpayer’s employer. The taxpayer’s tax return preparer failed to attach a copy of the election to the income tax return for the year of the election. The IRS privately ruled the taxpayer’s election was still valid and asked that the taxpayer send a copy of the election to associate with the income tax return.

I still recommend that you follow the requirements of the regulations and attach a copy of the election with your income tax return, but it’s reassuring to know the IRS probably won’t disqualify your election for this “foot fault”.

(IRS Letter Ruling 201405008, October 22, 2013.)

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IRS audit rate is way down.

The audit rate during 2013 fell to less than one percent of the tax returns filed. The rate for taxpayers with income of $1 million or more was much higher, 10.85%, down from 12.14% for 2012. The rate for taxpayers with incomes between $200,000 and $1,000,000 was 2.7%.

The lower rates are a reflection of reduced funding and staffing for the Internal Revenue Service, and the government shut down.

Things look worse for the IRS for 2014. The new federal budget just approved by President Obama on January 17, 2014 reduces the appropriation to the IRS from about $11.8 billion in 2013 to about $11.3 billion for 2014. Don’t expect much personal help from the IRS with your tax questions this tax season. Fortunately, the IRS has an excellent web site where you can find answers to many questions.

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Please share your good experiences with Michael Gray, CPA.

As you know, more and more people are going to the internet to find information about service providers. We hope you will share some good words about experiences that you have had with our firm. Some of the sites where you can share your experiences include yelp.com, siliconvalley.citysearch.com, and Google+.

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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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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.

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Financial Insider Weekly broadcast schedule for February and March.

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 February and March:

February 7, 2014, Raymond Sheffield, attorney at law, Sheffield Law Office, “Estate tax planning for retirement accounts”
February 14, 2014, Raymond Sheffield, attorney at law, Sheffield Law Office, “Handling retirement accounts after a death”
February 21, 2014, Professor Patricia Cain, Santa Clara University School of Law, “Tax issues for same sex couples”
February 28, 2014, David Howard, attorney at law, Hoge, Fenton Jones & Appel, “Tax reporting of foreign bank and investment accounts for individuals”
March 7, 2014, David Howard, attorney at law, Hoge, Fenton, Jones & Appel, “Tax reporting of foreign bank and investment accounts for individuals”
March 14, 2014, Dick Blakeley, The Blakeley Group, “Setting family financial goals and reaching them”
March 21, 2014, Alan Nobler, attorney at law, “How a collaborative team can help preserve your legacy”
March 28, 2014, Stephen H. Salmeyer, attorney at law and psychologist, “Why emotions matter when resolving financial disputes”

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 are available at https://www.youtube.com/user/financialinsiderweek.

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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Michael Gray regrets he can no longer answer emails personally. He will answer selected questions in this newsletter. Email your questions to mgray@stockoptionadvisors.com.

See the books mentioned at http://http://www.siliconvalleypublishingcompany.com/products/secrets-of-tax-planning-for-employee-stock-options-2014-edition or the Special Report, Nonqualified Stock Options – Executive Tax and Financial Planning Strategies at www.stockoptionadvisors.com/nqsorequest.

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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