Sale of Stock Option Shares: Disparity Between Correct Tax Basis & Tax Basis Shown on 1099-B Continues Under Final Regulations
Date: April 19, 2013
Final regulations issued on April 17, 2013 state that IRS Forms 1099-B are to include only the exercise price as the adjusted tax basis when shares received through the exercise of nonqualified stock options are sold.
This means that the 1099-B will continue to have the incorrect tax basis for determining the gain on sale of the related shares by employees. The correct tax basis is the share value on the exercise date. To correct this disparity, employees will be required to continue to provide information on a Form 8949 and then reflect that adjustment on a Schedule D. This has been the procedure for a few years and will continue to be required.
Note also that the effective date of the final regulations is written in an manner that would seem to allow the current permissible approach to continue to apply to options granted prior to 2014, regardless of when exercised. But it could be that brokers will not accept the use of a bifurcated approach going forward (one disclosure for options granted prior to 2014 and a different disclosure for options granted commencing in 2014), which would also seem confusing to employees. Even for those brokers who might have been flexible to show the correct tax basis, they will likely apply the approach of the final regulations to the sale of shares going forward.
Prior to the issuance of the final regulations, the IRS had been considering adding a field to Form 1099-B to indicate compensatory options and the rules would seem to require that Form 1099-B reflects the correct tax basis commencing in 2014. However, the IRS changed course after hearing the administrative challenges from brokers.
If any brokers have worked with employers to have Form 1099-B reflect the true tax basis of shares from the exercise of stock options, some form of reboot will be necessary.
With respect to shares sold following the exercise of incentive stock options, the amount required to be reported by brokers on a Form 1099-B might have always been limited to the exercise price; whereas, the amount to show on a Form 1099-B for nonqualified options and Section 423 employee stock purchase plan awards would seem to be the same.
Shares received (i) as restricted shares, (ii) upon settlement of restricted share units (RSUs) and (iii) from option exercises prior to 2011 are generally not “covered securities” and the tax basis of such shares will not be shown on Form 1099-B. In these situations, employees must show the accurate tax basis on the forms they file with their Form 1040 to eliminate or minimize the gain associated with the sale of such shares. Note that like nonqualified stock options, the ordinary income associated with these compensatory awards will also be reflected on W-2s issued by employers and proper adjustment must be made to avoid duplication of income when the shares are sold.
A procedure is available (Revenue Procedure 2002-50) that allows brokers to not file a Form 1099 in those situations where nonqualified stock options and ISOs are exercised and the related shares are sold on the same day. In practice, this procedure might not be commonly used for various reasons.
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