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Section 83(b) election

Under the usual Internal Revenue Code rule for restricted property (including, e.g., restricted stock acquired on exercise of employee stock options), income tax is postponed until the property is no longer subject to a substantial risk of forfeiture or the property is transferable. However, a service provider (including an employee) may elect to be taxed in the year of transfer rather than waiting until the property restrictions lapse. If the election is made, the recipient of restricted property is treated as receiving ordinary income to the extent of the difference, if any, between the fair market value of the property without regard to any lapse restriction and the amount, if any, the recipient paid for the property. In the case of stock options exercised before an IPO, the difference between the Strike price of the option and the Fair value of the stock acquired on exercise may be small. Hence, the tax due is also small. An advantage of early exercise in this case is that appreciation in the value of the stock subsequent to exercise is taxed at the lower capital gains tax rate.

The election must be made by the person who performs the service for which the property is received. A taxpayer making the election must notify the person for whom the services were performed that he has elected early recognition of income on the property. The election must be filed not later than 30 days after the date the property is transferred.

Steven Huddart
Smeal College of Business, Penn State University, University Park, PA 16802-3603 USA
(814) 863-0048
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was last updated on Tue, Aug 21, 2018.
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