Tax on Discount from Employee Share Purchase Plan

[Guest benefitsanalyst]

We have a non-qualified Employee Share Purchase Plan that offers a 15% discount. We are currently taxing employees on the discounted amount for Federal, State, FICA and Medicare.

Are we taxing employees correctly on the discount?

[JanetM]

While not being a payroll expert I will take a stab at it anyway as I am a CPA and there is some (if you stretch it) logic to the tax code.

You are imputing income to them similar to the cost of group term life insurance in excess of $50K. The insurance you are providing is employer paid just like the discount you are offering. Insurance income is only imputed for FICA and FMHI not fed and state. I would think this discount would be taxed the same way.

Started by saying I am not payroll expert so take it for what it's worth.

[david rigby]

Many years ago, when I had opportunity to participate in an ESPP (not an ESOP) under IRC 423, my employer included the discount and any credited interest as taxable income. I think it was a 1099. The rules may have changed.

[Lori Friedman]

JanetM,

Did you just mention the terms "logic" and "tax code" in one sentence?!

By the way, I like your little kitten.

[E as in ERISA]

I think that the IRS said that non-qualified ESPPs (ones that don't meet 423) are subject to 409A nonqualified deferred compensation rules.

[BeckyMiller]

Here is a great summary of the operational and tax reporting rules for 423 plans.

http://www.fairmark.com/execcomp/espp/index.htm

[Kirk Maldonado]

I think that purchases of stock under a nonqualified employee stock purchase plan would be taxed under Section 83.

Unfortunately, as Katherine pointed out, that doesn't mean that they can't also be subject to tax under Section 409A; they can be taxed under both regimes.

[Guest joey tax]

I'm with Kirk on this one: the discount would be taxed at exercise, i.e., the difference between the exercise price and FMV at the time of exercise. If the share was worth 10 at grant, 12 at exercise, and the plan gives a 10 per cent discount, the exercise price would be 9 and the ordinary income element at exercise would be 3. Basis = 12. Any further gain would be capital gain, long or short term depending on the holding period.

Oh yeah--and 409A would really blow this up, just as with a below market grant of any other nonqualified stock option.

[Kirk Maldonado]

joey tax:

I don't think it is accurate to say section 409A would cause problem; it is more accurate to say it could cause problems.

For example, if the right to purchase the stock expires (if not previously exercised) in the same calendar year as it was granted, I don't think section 409A would apply.