What causes a nonstatutory stock option to be taxable upon grant?
For nonstatutory options without a readily determinable fair market value, there's no taxable event when the option is granted but you must include in income the fair market value of the stock received on exercise, less the amount paid, when you exercise the option.
This grant by itself isn't taxable. It's only when you actually exercise those options and when you later sell the stock that you purchased that you have taxable transactions.
NSOs are typically used by more mature companies for higher-paid employees. These stock options are also given to contractors, consultants and other non-employees if companies want to give them more than $100,000 worth of stock annually.
The receipt of these options is immediately taxable only if their fair market value can be readily determined (e.g., the option is actively traded on an exchange). In most cases, however, there is no readily ascertainable value, so the granting of the options does not result in any tax.
If the plan was a nonstatutory stock option, your basis is the sum of these: Price you paid for the stock. Any ordinary income reported on your W-2 when you exercised the option.
The recipient of an NSO is not taxed at the time the option is granted, and is taxed instead when the option is exercised.
When you exercise an NSO, any spread between the FMV on the date you exercise and the price you are paying for the stock is considered ordinary income to you. Your company will usually withhold ordinary income tax (including federal, payroll and any applicable state taxes).
Non-statutory options (NSOs) are employee stock options that defer taxes until the options are exercised. People sometimes also refer to them as non-qualified stock options (NQOs). They can be given to anyone, including employees, consultants and directors.
NSOs vs.
You don't have to pay to exercise RSUs; you simply receive the shares. So, unless a company goes to $0, RSUs always retain some value, whereas stock options like NSOs can be more of a gamble. RSUs are taxed when you receive the actual shares, with the value counting as income.
The Tax Treatment for Incentive Stock Options (ISOs)
ISOs are treated more favorably for taxes than non-qualified stock options (NSOs). This is partly because they require holding the stock for a longer period. This is true of regular stock shares as well.
What is the difference between a stock option and a grant?
A stock grant provides the recipient with value—the corporate stock. By contrast, stock options only offer employees the opportunity to purchase something of value. They can acquire the corporate stock at a set price, but the employees receiving stock options still have to pay for those stocks if they want them.
The price that you will pay for those options is set in the contract that you signed when you started. You may hear people refer to this price as the grant price, strike price or exercise price. No matter how well (or poorly) the company does, this price will not change.
The grant price is the price at which you can purchase shares, and the grant date is the day the stock options are given to you. Vesting is the process of fulfilling the grant (promise). The vesting schedule determines the vesting date - the date when you can begin purchasing stock and using your options.
NSOs are considered a type of ordinary income that you receive from your company. You are taxed on the day you exercise the non-statutory stock options on the difference between the grant price and the stock's fair market value. Generally, this will appear on your W-2, just as any other form of compensation would.
Nonqualified stock options
Generally, NQSOs that do not have a readily ascertainable FMV at the time of grant are taxed upon exercise. In most cases, they are not exercisable until the underlying stock vests, with vesting occurring pursuant to a plan document approved by the issuing company.
Adjusted options are created as a result of a significant corporate event on the option's underlying stock, such as a stock split, merger, acquisition, special dividend, spin-off, or reverse split. After one of these events, the option is altered to reflect the changes.
NSOs are taxed at ordinary income tax rates (the highest possible rate, just like your salary) twice: When you exercise them. Then again when you make money with them after your company exits.
Under the right conditions, ISOs can result in lower taxes for the optionee. NSOs are generally taxed (for regular federal income tax purposes) upon exercise in an amount equal to the difference between the exercise price and the fair market value (FMV) of the shares on the date of exercise.
Non-statutory stock options
In the year the NSOs are granted or become vested, the employee includes nothing in income. However, in the year the NSOs are exercised, the spread (fair value less strike price) is included as W-2 income to the employee. This spread will be shown as a Box 12 Code V item on the W-2.
Many companies try to estimate the right amount but it isn't very easy. Companies are required to withhold NSO taxes only for employees. Contractors can be given a 1099 instead, meaning they handle their own payments via quarterly estimated taxes.
Are nonqualified stock options subject to FICA?
At grant: No tax consequences. At exercise: The excess of the stock's fair market value over the option price is taxed as ordinary income and is subject to FICA and income tax withholding (if the option holder is an employee).
NQSO's are a form of employee compensation benefit that are subject to their own unique rules. Generally, NQSO's are taxable to employees and deductible as compensation by the company at the same time.
Non-qualified stock options benefit employers in ways that are similar to all other stock options. By serving as an effective compensation method, it reduces the potential cash outflow and allows the company to retain higher cash and liquidity for other needs.
Once options are exercised, the employee owns the stock. She must hold the stock for a minimum of 1 additional year before selling the shares. If sold before 1 year, it's a disqualifying disposition and treated as non-qualified stock options.
The income related to the option exercise should be included in the Form W-2 you receive from your employer or 1099-NEC from the company if you are a non-employee. Any capital gain or loss amount may also be reportable on your US Individual Income Tax Return (Form 1040), Schedule D and Form 8949 in the year of sale.
