Question

Complete the problems listed below relating to BIO-SCI Corp for its employee, Jone Lee. For each event of each problem, indicate if this is a taxable event, amount of taxable income and character of the income. Also indicate the starting date for the holding period of the underlying stock. (Note: Ignore AMT for all problems)

1. BIO-SCI issued Incentive Stock Options (ISO)to Jone as follows:

a. July 1, 2013 - Granted 200,000 ISO’s (Exercise price = $10/share & FMV =$10/share). 


Taxable event: No

b. June 15, 2014 – Exercised her 50,000 ISO’s (FMV of stock = $16/share) 


Taxable Event: No

c. October 20, 2015 – Sold 10,000 shares of stock (Proceeds = $21/share) 


Taxable event: YES, $21-$10= $11 GAIN

Would your answer to c. change if the date were June 16, 2015?

Answer 1

• ISO is one of the employee stock options.ISO gives employee a tax incentive by allowing one to pay ordinary income tax at exercise of options.
• Taxable event taxable event under ISO:

Employee does not have to pay ordinary Income Tax at exercise of options (the difference between fair market value and exercise price is subject to an AMT adjustment)

On the date of sale if the stock is held for more than 1 year then the difference between selling price and ordinary exercise price is taxed at long term capital gain rate. on sale in the qualifying disposition same is texed as Long term capital gain.

Here qualifying disposition is the sale occurs at least two years after the option grant and at least one year after the date of exercise of option otherwise the same will be treated as and income from salary and taxed as ordinary income.

In the given question taxable event and taxabkle income will be as follows:

a. Taxable event: No.

Taxable income: Nil.

Reason: Here only grant of options is done, it is not exercised by employee so it will not be either taxable event or income.

b. Taxable event : No.

Taxable income : Nil.

Reason : HereHexercise of option is being done but the sale of option has not taken place so it will not be a taxabkle event and taxable income.

c. Taxable event : Yes.

Taxable income :$1,10,000 Long term capital gain

Reason : The ISO are sold 10,000 shares at $21 and the exercise price was $ 10 . It is a qualifying disposition as the sale accurs after 2 years of grant of options ( i.e.June1,2013) and after 1 year of exercise of options ( i.e. June 15,2014) so the income is eligible for tax at lower rate then the normal income tax rate that is taxed as long term capital gain.

• No, our answer will not be different in case of sale on June 16,2015 as this date is also satisfying all two conditions of qualifying disposition.