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A Big Year for Vesting Stock and Option Exercise? Explore Significant Tax Savings
Published Date : September 15, 2015
Summer’s quickly come to a close, the kids are back at school, football is on television and Halloween costumes are in the stores. I’ve barely put away our beach bag and the holidays are a few short months away. And with that comes the realization of another year’s passing. This is the time of year when taxpayers often think about ways they can reduce their tax burden. As a result, November and December are the two busiest months of the year for charitable giving as philanthropic gifts quickly slide in before year-end. Another very impactful tax strategy that holders of restricted stock units or exercised options may be able to utilize is the prepayment of state and property tax bills.
Why advance the pain of tax payments by paying early? Let’s first review some of the distinctions between the types of taxes that would be considered here:
Ordinary Income Tax: Ordinary income tax is levied on income other than long-term capital gains. In its purest form, ordinary income is the compensation you receive for your job, but other common sources include interest income, dividends, and net rental income. According to the 2015 IRS tax tables, rates for ordinary income range from 10% at the lowest tier bracket to 39.6% at the highest bracket.
Alternative Minimum Tax (AMT): According to the Tax Foundation (Source: taxfoundation.org), the Secretary of the Treasury testified that in 1967, 155 people with adjusted gross incomes above $200,000 had paid zero federal income tax on their tax returns. The AMT was originally enacted in 1969 to make sure that higher income earners pay at least a minimum level of taxes. Each year taxes are essentially calculated twice: once using the regular method; and the second time applying other adjustments and limits to deductions. For example, state income and property taxes are not deductible under the AMT method, so your taxable income is markedly higher, especially for those living in high-tax states like California.
As discussed in my previous blog, Restricted Stock Units (RSUs) and exercised and sold non-qualified stock options, are subject to ordinary income tax at the time of their vesting or exercise. Often, related taxes are paid as vesting or Non-Qualified Options (NQO) sales occur. The company nets the tax due either with the shares vested, resulting in fewer shares, or from proceeds of sales. The income and taxes withheld are reported on the pay stub for that period covered, and on W-2s at year end. The activity associated with significant blocks of stock vesting or NQO sales result in a large ordinary tax hit in such years. Unfortunately, you can do nothing to change the character of this income.
Where you do have some control is in how you manage deductions when planning for the current and coming tax year’s relative tax exposure. For example, if you have a high tax year because of vesting stock or option exercises, and that income is greater than what you expect the following year (implying less ordinary income next year), chances are greater you will be subject to the AMT next year. You may be able to manage your tax load over both years by prepaying all or some of your state income and property tax, taking advantage of the deduction now and front-running the loss or moderation of those deductions next year.
The Tax Policy Center has appropriately named the Alternative Minimum Tax “the epitome of pointless complexity,” (Source: money.cnn.com) so as the saying goes, “don’t try this at home”! Analysis of your personal income tax and alternative minimum tax should be done by a tax accountant to determine if a strategy such as the one I’ve described is suitable and appropriate for your situation. If the strategy fits your vesting description, it has the potential for a significant savings against your taxable income.
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All video presentations discuss certain investment products and/or securities and are being provided for informational purposes only, and should not be considered, and is not, investment, financial planning, tax or legal advice; nor is it a recommendation to buy or sell any securities. Investing in securities involves varying degrees of risk, and there can be no assurance that any specific investment will be profitable or suitable for a particular client’s financial situation or risk tolerance. Past performance is not a guarantee of future returns. Individual performance results will vary. The opinions expressed in the video reflect Sand Hill Global Advisor’s (“SHGA”) or Brenda Vingiello’s (as applicable) views as of the date of the video. Such views are subject to change at any point without notice. Any comments, opinions, or recommendations made by any host or other guest not affiliated with SHGA in this video do not necessarily reflect the views of SHGA, and non-SHGA persons appearing in this video do not fall under the supervisory purview of SHGA. You should not treat any opinion expressed by SHGA or Ms. Vingiello as a specific inducement to make a particular investment or follow a particular strategy, but only as an expression of general opinion. Nothing presented herein is or is intended to constitute investment advice, and no investment decision should be made based solely on any information provided on this video. There is a risk of loss from an investment in securities, including the risk of loss of principal. Neither SHGA nor Ms. Vingiello guarantees any specific outcome or profit. Any forward-looking statements or forecasts contained in the video are based on assumptions and actual results may vary from any such statements or forecasts. SHGA or one of its employees may have a position in the securities discussed and may purchase or sell such securities from time to time. Some of the information in this video has been obtained from third party sources. While SHGA believes such third-party information is reliable, SHGA does not guarantee its accuracy, timeliness or completeness. SHGA encourages you to consult with a professional financial advisor prior to making any investment decision.
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