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We've got to get this AMT thing fixed; it's nuts that people owe taxes on money they never had. At the very least, when the stock in such a situation actually

We've got to get this AMT thing fixed; it's nuts that people owe taxes on money they never had. At the very least, when the stock in such a situation actually becomes worthless, one should be able to file a 1040X for the year in which the AMT was triggered, erasing the excess tax bill and turning any excess tax paid into a credit. I can see wanting to tax people on paper gains as a way of closing loopholes -- but if the paper gain evaporates we should let them off the hook.

dweekly 15y ago
Totally agreed: AMT is nutty. I've had good friends bankrupted by it.
maximilian 15y ago
I have to admit I was quite surprised by this part of the article. Can someone give a slightly more detailed example of how this works and more specifically how most people manage it? Basically you get stock from your options (which you exercise) and then you have to pay tax on the worth of that stock, which gets counted as a sudden income? I guess it makes sense you get taxed somewhat on this, as it is in a sense part of your income at the company, but I don't really understand how this works.
- DavidChouinard 15y ago
  Read the document attached to the bottom or the original post. Trust me, it'll all be much clearer.
yummyfajitas 15y ago
One very effective way to solve this would be to allow in-kind payments. If the IRS believes your shares are worth $X, and they think you owe 25% of X, they should be willing to accept 25% of your shares. This would solve a lot of other tax issues relating to transfers of illiquid equity. Consider the estate tax - a guy owns a business the IRS values at $10M and dies. The kids don't have $1.75M sitting around in cash (35% of $10MM-$5MM exclusion amount) so they are forced to liquidate the business. Instead, wouldn't it be better to allow the business to continue running, but pay the IRS 17.5% of dividends/pass through income? [edit: said profit, meant dividends. Thanks orijing.]
- orijing 15y ago
  You mean 17.5% of the profits on top of the 35%?
  - yummyfajitas 15y ago
    It's only 35% of value above 5MM, so (in my hypothetical) the IRS becomes a 17.5% shareholder of the company. Like any 17.5% shareholder, they are entitled to 17.5% of the profits (ignoring details like profits not immediately distributed to shareholders).
- random42 15y ago
  IRS is a revenue collecting body, not a VC firm. Why would they want to take undue risk? I see the following reasons (atleast), the proposed solution is a no-go. a. 17.5% cash >> 17.5% shares of a business, which is struggling to pay 17.5% cash. b. what happens if the business goes under and IRS owns 100% shares of the business? c. What happens if all IRS get in payment is shares. How the country economy is supposed to run? (with foreign trade etc.)
  - kjksf 15y ago
    Forcing the risk on IRS is exactly the point. The idea is to force them to value things in a (more) rational way. Today, they don't have to. Their incentive is exactly the opposite: overvalue things to get more tax out of it. I think we can all agree the best thing is to take away ability to tax phantom money from IRS. Next best thing is to setup the rules so that IRS is on the hook if they overvalue phantom money.
  - yummyfajitas 15y ago
    17.5% cash >> 17.5% shares of a business, which is struggling to pay 17.5% cash. If 17.5% of a business is worth less than $1.75M then 100% of the business is worth less than $10M. Thus the tax bill should be lower than $1.75M. what happens if the business goes under and IRS owns 100% shares of the business? Then the IRS's initial valuation of $10M was inaccurate. Why should the business owner pay for mistakes made by the IRS?
Stwerner 15y ago
Would sites like SecondMarket potentially solve this problem a little bit - allowing you to sell some of the stock in order to pay the taxes?
- dweekly 15y ago
  Absolutely. The issue is that by current standards, only a very small proportion of companies make it to the point where there are vibrant secondary markets for their Common shares (generally speaking at this point they have options to go public or be acquired also). Most startups don't have this as an option. I've been told by SecondMarket folks that generally speaking unless there's huge hype around a company, one needs to be at $!0m+/year revenues before the secondary market has appetite.
kemiller 15y ago
So, you all should check with your own tax advisors, but it's my understanding that the AMT problem for incentive stock options has actually been fixed. But yes, this was a HUGE problem in the last boom. I have a few friends who got majorly screwed by it.
- strlen 15y ago
  No, it has not been fixed. However, there are a few things you can do. PREFACE Check with a CPA before acting on this advice! I'm not a CPA. * If you sell in the same calendar year as you exercise, it's considered a "disqualifying disposition" * The tax is actually Max(regular income tax, AMT). Normally your AMT (on your regular income) is lower. So you can exercise and hold just enough shares to "bridge you" to the point where the AMT is equal to the regular income tax. This way you will still be eligible for long term capital gains tax. REMINDER Check with a CPA before acting on this advice!

dweekly 15y ago

Totally agreed: AMT is nutty. I've had good friends bankrupted by it.

maximilian 15y ago

I have to admit I was quite surprised by this part of the article. Can someone give a slightly more detailed example of how this works and more specifically how most people manage it? Basically you get stock from your options (which you exercise) and then you have to pay tax on the worth of that stock, which gets counted as a sudden income? I guess it makes sense you get taxed somewhat on this, as it is in a sense part of your income at the company, but I don't really understand how this works.

DavidChouinard 15y ago
Read the document attached to the bottom or the original post. Trust me, it'll all be much clearer.

yummyfajitas 15y ago

One very effective way to solve this would be to allow in-kind payments. If the IRS believes your shares are worth $X, and they think you owe 25% of X, they should be willing to accept 25% of your shares. This would solve a lot of other tax issues relating to transfers of illiquid equity. Consider the estate tax - a guy owns a business the IRS values at $10M and dies. The kids don't have $1.75M sitting around in cash (35% of $10MM-$5MM exclusion amount) so they are forced to liquidate the business. Instead, wouldn't it be better to allow the business to continue running, but pay the IRS 17.5% of dividends/pass through income? [edit: said profit, meant dividends. Thanks orijing.]

orijing 15y ago
You mean 17.5% of the profits on top of the 35%?
- yummyfajitas 15y ago
  It's only 35% of value above 5MM, so (in my hypothetical) the IRS becomes a 17.5% shareholder of the company. Like any 17.5% shareholder, they are entitled to 17.5% of the profits (ignoring details like profits not immediately distributed to shareholders).
random42 15y ago
IRS is a revenue collecting body, not a VC firm. Why would they want to take undue risk? I see the following reasons (atleast), the proposed solution is a no-go. a. 17.5% cash >> 17.5% shares of a business, which is struggling to pay 17.5% cash. b. what happens if the business goes under and IRS owns 100% shares of the business? c. What happens if all IRS get in payment is shares. How the country economy is supposed to run? (with foreign trade etc.)
- kjksf 15y ago
  Forcing the risk on IRS is exactly the point. The idea is to force them to value things in a (more) rational way. Today, they don't have to. Their incentive is exactly the opposite: overvalue things to get more tax out of it. I think we can all agree the best thing is to take away ability to tax phantom money from IRS. Next best thing is to setup the rules so that IRS is on the hook if they overvalue phantom money.
- yummyfajitas 15y ago
  17.5% cash >> 17.5% shares of a business, which is struggling to pay 17.5% cash. If 17.5% of a business is worth less than $1.75M then 100% of the business is worth less than $10M. Thus the tax bill should be lower than $1.75M. what happens if the business goes under and IRS owns 100% shares of the business? Then the IRS's initial valuation of $10M was inaccurate. Why should the business owner pay for mistakes made by the IRS?

Stwerner 15y ago

Would sites like SecondMarket potentially solve this problem a little bit - allowing you to sell some of the stock in order to pay the taxes?

dweekly 15y ago
Absolutely. The issue is that by current standards, only a very small proportion of companies make it to the point where there are vibrant secondary markets for their Common shares (generally speaking at this point they have options to go public or be acquired also). Most startups don't have this as an option. I've been told by SecondMarket folks that generally speaking unless there's huge hype around a company, one needs to be at $!0m+/year revenues before the secondary market has appetite.

kemiller 15y ago

So, you all should check with your own tax advisors, but it's my understanding that the AMT problem for incentive stock options has actually been fixed. But yes, this was a HUGE problem in the last boom. I have a few friends who got majorly screwed by it.

strlen 15y ago
No, it has not been fixed. However, there are a few things you can do. PREFACE Check with a CPA before acting on this advice! I'm not a CPA. * If you sell in the same calendar year as you exercise, it's considered a "disqualifying disposition" * The tax is actually Max(regular income tax, AMT). Normally your AMT (on your regular income) is lower. So you can exercise and hold just enough shares to "bridge you" to the point where the AMT is equal to the regular income tax. This way you will still be eligible for long term capital gains tax. REMINDER Check with a CPA before acting on this advice!