Is it possible you paid tax twice on your equity compensation and did not know it? If your CPA was calculating your tax liability of the 1099-B provided by the brokerage firm administering your equity compensation plan, the answer is yes.
The potential tax trap was created when the IRS revised Regulations 1.6045-1. It requires brokers to list the initial basis (exercise price) on Form 1099-B for income recognized upon the exercise of equity-based options or the vesting or exercise of other equity-based compensation arrangements, granted or acquired after 2013. How they report pre-2014 grants vary per custodian, and we have found some inconsistencies among the same custodians.
Equity Compensation Over-Reporting of Income
|NSO or ISO
Reported on W2
Reported on W2
|Equity Award Shares||20,000||20,000||20,000|
|FMV on date of exercise or vest||$54.00||$1,080,000||$1,080,000|
|Equity Award Acquisition Price||$24.00||$480,000||$0|
|Reported basis on brokerage 1099-B||$24.00||$480,000||$0|
|Actual basis to correct on Form 8949||$54.00||$1,080,000||$1,080,000|
|Over Reporting of Income||$600,000||$1,080,000|
*chart is for example purposes only. Non-statutory Stock Options (NSO), Incentive Stock Options (ISO), Restricted Share Units (RSU), Restricted Share Awards (RSA), Performance Share Units (PSU), Performance Share Awards (PSA)
This creates two possible traps.
The first trap is in the year of exercise. This one is less likely to happen due to the exercise and sale happening in the same year. A CPA will often pick up the extra income on the W2 detail showing the equity compensation and be able to match the income shown on the 1099-B that will be the same or close to the extra W2 income. In the event the CPA goes off of the W2 box 1 and does not have or look at the payroll detail or notice the acquisition date and disposition date are the same dates, the executive will be paying short-term capital gains that are equal to the options income.
The second and more likely trap is when the executive sells the shares acquired through equity-based compensation years later. The brokerage firm will report the basis of the sale as the exercise price vs. the true basis of the fair market value at the time of exercise. For most executives that means they are paying long-term capital gains on gains they don’t actually owe. Any stock they acquired after 2013 will be on the incorrect basis reported by the brokerage firm. Stock acquired prior to 2014 may or may not be correct. It’s up to the brokerage firm’s discretion if they reported the true basis based on compensation or the exercise price. In our experience, most of the brokers providing stock plan services for corporations tracked the basis correctly before 2014.
If you or your advisor are keeping track of your true basis, how do you correct it?
Brokerage firms are not able to change the reported basis. And, even if you transfer shares to a new brokerage firm, the basis received from the old brokerage firm can’t be changed except in the case of the death of the owner. It is up to you or your CPA to correct the basis using Form 8949.
Do you think you might have fallen into the double tax trap? We can help to reconstruct the correct basis and work with your CPA to file an amended return. Contact SignatureExecutive, firstname.lastname@example.org.