Question

Bill has a nonqualified stock option for 100 shares. The grant price is $100 per share. The current market value of the stock is $250 per share. Should Bill exercise the stock option? If he does, should he continue to hold the stock or sell it immediately? Is there any tax advantage in waiting to sell the stock? What is the tax consequence to Bill if he exercises the stock option when the stock’s market value is $250 per share, and he immediately sells the stock? What is the tax consequence to Bill if he exercises the stock option when the stock’s market value is $250 per share, but he waits a year and a day to sell the stock when the stock’s market value is $275 per share?

Answer 1

Bill holds the option to buy shares at $100, while the current market price is $250, hence he should exercise the option.

If Bill sells the share immediately It would lead to a short term capital gain of $ 150 per share, total of $15,000 for 100 shares. A short-term capital gain results from an asset owned for one year or less before it is disposed of.

Generaly, Short-term gains are taxed as regular income, according to the U.S. income tax brackets (10- 35% based on te status of Bill- Single, head of household, etc)

The tax on a long-term capital gain is almost always lower than if the same asset were sold (and the gain realized) in less than a year.

And hence if Bill waited for a year and sold it at $275 per share, he would record a Long term capital gain(LTCG) of $175 per share and a total LTCG of $17,500.

In this case, Tax rate of 0% would be applicable as the Gain is below the threshold limit for any category or status Bill would fall in.