5 ms·

Mostly this happened to people that got bad advice (I really hope all of the entrepreneurs reading this site are smarter now). For most, the issue was exercisi

by loumf 13y ago

Mostly this happened to people that got bad advice (I really hope all of the entrepreneurs reading this site are smarter now). For most, the issue was exercising their options. This is a tax event -- and the tax is owed on the difference in your strike price and the current price of the stock. If you find yourself in this situation -- immediately sell enough stock to cover the tax. If you are given stock -- that is the tax event. You need to have enough cash to cover taxes on stock given to you -- if the stock is illiquid, and this is a bonus or something, then you should ask for part of the bonus to be in cash (to cover tax). If the stock is liquid, immediately sell enough to cover tax. If you are a founder, and your stock just goes up in price, that is not a tax event. Being given at-the-money options is not a tax event. You only owe <s>stock</s> tax once you exercise. IANAA (not an accountant) EDIT: replace "stock" with "tax" in the second to last paragraph

Anderkent 13y ago
Doesnt selling stock immediately rather than after a year mean your tax rate on it is higher?
- thrownaway2424 13y ago
  No, because the exercise is taxed as income at the time of the exercise. If you sell it, there's not _more_ tax to be paid, because your gain after the exercise is zero. If you sell it after some, you'll pay long-term capital gains rates on the delta between your sale price and your exercise price. Exercise-and-hold is a bad idea for most people in most cases.
- deleted 13y ago
  [deleted]
- Consultant32452 13y ago
  Generally, yes. Short term capital gains are taxed at a higher rate than long term capital gains.
- ogreyonder 13y ago
  Yes; for people participating in an employee stock purchase program, it is called a Disqualifying Disposition. It puts you in the short-term capital gains bracket (with about 15% higher tax). However, it's still a VERY good idea to do if you plan on holding stock. I know stories of several people who were exercised options on 7 figures of stock, only to see the price collapse before they were able to sell. The taxes they owed because of that eclipsed their net worth several times over.
  - beagle3 13y ago
    It's an excellent idea if you can do it - but sometimes you can't - e.g. If you are in the 6 month lockup period following an IPO or grant or other SEC rule 144 event. It runs afoul of said law to even hedge with options or on the open market. It is crazy, but it is that way.
- zpao 13y ago
  AFAIK You're taxed on receiving stock as if it were income. This is regardless of if you sell it today, tomorrow, or never. After that you're only taxed on gains. If you sold on the day of reception, then your gains/losses are likely minimal. Eg, receive at 50 sell at 50 = 0 gains/losses. Sell at 51 and you have $1*N gains. Those gains are taxed at a higher rate until a year after the stock appeared in your account. I think the difference is ~10% (35 vs 25 or so). So there are definite tradeoffs between holding for the year vs selling immediately. This part is no different than buying/selling on the stock market. tldr; yes, but not exactly
- stevewilhelm 13y ago
  > Doesnt selling stock immediately rather than after a year mean your tax rate on it is higher? This is the exact thinking that got many people in trouble during the dot.com bubble. They exercised their options and neglected to sell and hold enough capital to pay their tax obligation. Then the bubble burst and stock prices dropped, in some cases to nothing, within a year. The IRS still wanted the capital gains taxes on the difference between the option's grant price and the stock price on the day the options were exercised (aka the taxable event). It was not uncommon to have people loose their houses and have their wages garnished to pay off their taxes. Consider this a cautionary tale when speculatively trading Bitcoin.
  - beagle3 13y ago
    But do see my other comments on SEC rule 144 - sometimes you are forbidden from selling in a way that exposes you to loss risk that cannot be mitigated without running afoul of security laws.
    - stevewilhelm 13y ago
      You can purchase put options or employ other strategies to hedge against risk when one owns a large position in a single stock.
      - tsotha 13y ago
        Not always. Sometimes that's against the rules, depending on exactly how the stock is awarded.
      - beagle3 13y ago
        There was specific language that explicitly said "this is illegal" until the latest revision. Now, it's implicit, and in inquiries to the SEC they have repeatedly said "that goes against regulation". The general idea behind rule 144 very sane: It's supposed to limit pump-and-dump IPOs and M&As, by forcing anyone who did not pay for their shares outright to wait 6 months before they can gain anything (and legally, the SEC is only interested in the overall guarantee - e.g. put options that guarantee you don't lose are AGAINST the current spirit and the former letter of the law). However, the laws apply equally to someone who owns 90% of the shares (who is in a position to abuse an IPO and M&A) and 0.1% of the shares (who is likely an employee receiving RSU or options, has zero control, and likely not even any finances to draw upon) The tax law is insane, the security regulations are complicated, and their interplay is ludicrously insanely crazy. Whenever you see people saying "oh, it's very simple - you just didn't get the right advice" you can be sure that they have no idea what they are talking about - either they didn't have to deal with it, or they weren't aware they were doing something illegal.
0003 13y ago
Whatever you do, do not ask for more illiquid stock to pay for the tax... :P
beagle3 13y ago
It happens to people who got good advice too. I was an investor in a startup that sold for 3x (yay!), and the deal was less than 1 yr from my investment (35% short term capital gain rate + 13% NYC rate = 48% tax rate on the spot) but the deal was 45% cash, 55% stock. So I already had out-of-pocket expenses. But I had to wait 6 months to sell any stock (SEC rule 144, applies to anyone whose shares were not bought), during which buying company share crashed 75% unrelated to this deal. Now, since the deal happened to be in the first 6 months of the year, I was able to net it all, and a 3x exit was reduced to ~1.5x thanks to rule 144 If the deal had happened just 3 months later (any day after 1-jul), I would have lost money - not even full return of capital - on a successful exit, and had losses to carry till the end of the universe. The tax laws are the problem. I have a good accountant, but wasn't in the driver seat for this deal, so I couldn't properly structure it.

by loumf 13y ago

Anderkent 13y ago

Doesnt selling stock immediately rather than after a year mean your tax rate on it is higher?

thrownaway2424 13y ago
No, because the exercise is taxed as income at the time of the exercise. If you sell it, there's not _more_ tax to be paid, because your gain after the exercise is zero. If you sell it after some, you'll pay long-term capital gains rates on the delta between your sale price and your exercise price. Exercise-and-hold is a bad idea for most people in most cases.
deleted 13y ago
[deleted]
Consultant32452 13y ago
Generally, yes. Short term capital gains are taxed at a higher rate than long term capital gains.
ogreyonder 13y ago
Yes; for people participating in an employee stock purchase program, it is called a Disqualifying Disposition. It puts you in the short-term capital gains bracket (with about 15% higher tax). However, it's still a VERY good idea to do if you plan on holding stock. I know stories of several people who were exercised options on 7 figures of stock, only to see the price collapse before they were able to sell. The taxes they owed because of that eclipsed their net worth several times over.
- beagle3 13y ago
  It's an excellent idea if you can do it - but sometimes you can't - e.g. If you are in the 6 month lockup period following an IPO or grant or other SEC rule 144 event. It runs afoul of said law to even hedge with options or on the open market. It is crazy, but it is that way.
zpao 13y ago
AFAIK You're taxed on receiving stock as if it were income. This is regardless of if you sell it today, tomorrow, or never. After that you're only taxed on gains. If you sold on the day of reception, then your gains/losses are likely minimal. Eg, receive at 50 sell at 50 = 0 gains/losses. Sell at 51 and you have $1*N gains. Those gains are taxed at a higher rate until a year after the stock appeared in your account. I think the difference is ~10% (35 vs 25 or so). So there are definite tradeoffs between holding for the year vs selling immediately. This part is no different than buying/selling on the stock market. tldr; yes, but not exactly
stevewilhelm 13y ago
> Doesnt selling stock immediately rather than after a year mean your tax rate on it is higher? This is the exact thinking that got many people in trouble during the dot.com bubble. They exercised their options and neglected to sell and hold enough capital to pay their tax obligation. Then the bubble burst and stock prices dropped, in some cases to nothing, within a year. The IRS still wanted the capital gains taxes on the difference between the option's grant price and the stock price on the day the options were exercised (aka the taxable event). It was not uncommon to have people loose their houses and have their wages garnished to pay off their taxes. Consider this a cautionary tale when speculatively trading Bitcoin.
- beagle3 13y ago
  But do see my other comments on SEC rule 144 - sometimes you are forbidden from selling in a way that exposes you to loss risk that cannot be mitigated without running afoul of security laws.
  - stevewilhelm 13y ago
    You can purchase put options or employ other strategies to hedge against risk when one owns a large position in a single stock.
    - tsotha 13y ago
      Not always. Sometimes that's against the rules, depending on exactly how the stock is awarded.
    - beagle3 13y ago
      There was specific language that explicitly said "this is illegal" until the latest revision. Now, it's implicit, and in inquiries to the SEC they have repeatedly said "that goes against regulation". The general idea behind rule 144 very sane: It's supposed to limit pump-and-dump IPOs and M&As, by forcing anyone who did not pay for their shares outright to wait 6 months before they can gain anything (and legally, the SEC is only interested in the overall guarantee - e.g. put options that guarantee you don't lose are AGAINST the current spirit and the former letter of the law). However, the laws apply equally to someone who owns 90% of the shares (who is in a position to abuse an IPO and M&A) and 0.1% of the shares (who is likely an employee receiving RSU or options, has zero control, and likely not even any finances to draw upon) The tax law is insane, the security regulations are complicated, and their interplay is ludicrously insanely crazy. Whenever you see people saying "oh, it's very simple - you just didn't get the right advice" you can be sure that they have no idea what they are talking about - either they didn't have to deal with it, or they weren't aware they were doing something illegal.

0003 13y ago

Whatever you do, do not ask for more illiquid stock to pay for the tax... :P

beagle3 13y ago

It happens to people who got good advice too. I was an investor in a startup that sold for 3x (yay!), and the deal was less than 1 yr from my investment (35% short term capital gain rate + 13% NYC rate = 48% tax rate on the spot) but the deal was 45% cash, 55% stock. So I already had out-of-pocket expenses. But I had to wait 6 months to sell any stock (SEC rule 144, applies to anyone whose shares were not bought), during which buying company share crashed 75% unrelated to this deal. Now, since the deal happened to be in the first 6 months of the year, I was able to net it all, and a 3x exit was reduced to ~1.5x thanks to rule 144 If the deal had happened just 3 months later (any day after 1-jul), I would have lost money - not even full return of capital - on a successful exit, and had losses to carry till the end of the universe. The tax laws are the problem. I have a good accountant, but wasn't in the driver seat for this deal, so I couldn't properly structure it.