What does a company need to do with respect to taxes on equity awards?

For an option (or restricted stock unit) held by an employee, if the eligibility requirements for a Section 83(i) deferral election are satisfied, the company must provide notice of eligibility for the election generally when (or a reasonable period before) the shares covered by the option (or restricted stock unit) would, but for the application of Section 83(i), be taxable to the employee. Generally, this is the date on which the company transfers the shares to the employee (or for unvested shares purchased through the early exercise of an option, the date of vesting if the employee does not timely file a Section 83(b) election with the IRS to treat the shares as vested on the date of transfer for tax purposes).

For U.S. federal tax purposes, your company must report any ordinary income recognized by a service provider in connection with stock options and restricted stock:

• The exercise of a nonstatutory stock option (which is an option that is not eligible for favorable U.S. federal tax treatment), unless the optionee timely files a Section 83(i) election (if eligible) with the IRS to defer the federal income taxes ordinarily due upon exercise
• The sale or transfer of shares acquired through the exercise of an incentive stock option (which is an option that is eligible for favorable U.S. federal tax treatment, if certain requirements are met) that does not meet the holding periods necessary to receive favorable U.S. federal tax treatment (which is referred to as a disqualifying disposition)
• The purchase or award of restricted stock, which are shares of stock that typically are subject to forfeiture or repurchase if they do not meet vesting requirements, where a Section 83(b) election was timely filed with the IRS
• The vesting of restricted stock for which a Section 83(b) election was not timely filed with the IRS

This income should be included on Form W-2 or Form 1099, depending on whether the service provider is an employee or not. For these tax purposes, outside directors are not treated as employees, even though they are treated as employees under the accounting rules.

If the service provider is an employee, the company will be required to withhold applicable income, employment and other taxes. Note that if a service provider was both an employee and a non employee, you should contact a member of our employee benefits and compensation practice or a member of your corporate practice to discuss this.

In addition, the company will have an annual reporting obligation in connection with the exercise of incentive stock options (ISOs). For each ISO exercised, the company must file a Form 3921 with the IRS and provide a copy to the optionee.

For state, local, and international tax purposes, additional or different requirements or consequences may apply.

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