Guidance on Tax Benefit for Stock Options and Restricted Stock Units


The IRS has released initial guidance on the new Internal Revenue Code (IRC) Section 83(i), added by the 2017 Tax Cuts and Jobs Act.

IRC Section 83 generally provides for the federal income tax treatment of property transferred in connection with the performance of services. IRC Section 83(i) allows certain employees to elect to defer recognition of income attributable to the receipt or vesting of qualified stock for up to five years. The guidance clarifies the following three key issues related to IRC Section 83(i):

  1. The application of the requirement that eligible corporations must make grants to not less than 80% of all employees who provide services to the corporation in the United States.
  2. The application of federal income tax withholding to the deferred income related to the qualified stock.
  3. The ability of an employer to opt out of permitting employees to elect the deferred tax treatment even if the requirements under IRC Section 83(i) are otherwise met.

IRC Section 83(i) applies to stock attributable to stock options exercised, or restricted stock units (RSUs) settled, after December 31, 2017. Further guidance will be issued on these and other issues in the form of proposed regulations at a later date.

Eligible Corporations

Companies who wish to be eligible corporations and offer the IRC Section 83(i) election must have a written plan under which, in such calendar year, not less than 80% of all employees who provide services to the corporation in the United States (or any possession of the United States) are granted stock options, or are granted RSUs, with the same rights and privileges to receive qualified stock.

The IRS clarifies that the determination of whether a corporation qualifies as an eligible corporation is made “with respect to any calendar year.” Furthermore, to meet the 80% requirement, the corporation must have granted “in such calendar year” stock options to 80% of its employees. Therefore, the determination that the corporation is an eligible corporation must be made on a calendar-year basis. Whether the corporation has satisfied the 80% requirement is based solely on the stock options or the RSUs granted in that calendar year to employees who provide services to the corporation in the United States. In calculating whether the 80% requirement is satisfied, the corporation must take into account the total number of individuals employed at any time during the year in question as well as the total number of employees receiving grants during the year.

Employment Taxes

Employment taxes include Federal Insurance Contributions Act (FICA) taxes, Federal Unemployment Tax Act (FUTA) tax, and federal income tax withholding. FICA and FUTA taxes related to deferral stock remain unaffected.

Deferral stock is considered wages under IRC Section 3402. When the wages are treated as paid, the
employer must make a reasonable estimate of the value of the stock and make deposits of the amount of income tax withholding liability based on that estimate. The wages are subject to withholding at the maximum rate of tax, and withholding is determined without regard to the employee’s Form W-4. By January 31 of the following year, the employer must determine the actual value of the deferral stock on the date it is includible in the employee’s income, and report that amount and the withholding on Form W-2 and Form 941. With respect to income tax withholding for the deferral stock that the employer pays from its own funds, the employer may recover that income tax withholding from the employee until April 1 of the year following the calendar year in which the wages were paid. An employer that fails to deduct and withhold federal income tax is liable for the payment of the tax whether or not the employer collects it from the employee.

Ineligible Stock

IRC Section 83(i) imposes a number of requirements and limitations that must be met for an election to be allowed. Although the election, if allowed, may be made by an employee, the corporation is responsible for creating the conditions that would allow an employee to make the election. If a corporation does not intend to create the conditions that would allow an employee to make the election, the terms of a stock option or RSU may provide that no election under IRC Section 83(i) will be available with respect to stock received upon the exercise of the stock option or settlement of the RSU. This designation would inform employees that no IRC Section 83(i) election may be made with respect to stock received upon exercise of the option or settlement of the RSU, even if the stock is qualified stock.

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