A non-statutory stock option is defined as a type of compensatory stock that is not intended to be an incentive stock option (ISO).

In the year a non-statutory option is exercised, the taxpayer’s employer will usually include the bargain element gain in the taxpayer’s W-2 for that year and treat that income as wages subject to the usual withholding (income tax, FICA, etc.) The amount included in wages should be noted and coded “V” in Box 12 of the W-2.

If the FMV of the stock on the date the option is granted is greater than the option price, the taxpayer will generally incur taxable income in the year of the grant to the extent of the difference between the grant price and the FMV. If the exercise price at the time of the grant is higher than the FMV, or if the FMV of the stock is not readily determined, the income is included in the year the stock option is exercised.

Typically, the stock is sold by a brokerage house, withholding taxes deducted and remitted to the employer, and the taxpayer issued the net check. Since the gain is already included in the taxpayer’s W-2, the stock transaction may or may not need to be reported on Form 8949 as short-term with the cost basis being equal to the FMV at exercise and the sale price being the proceeds amount per the 1099-B (if one is issued or the same amount as the cost basis if not). If the cost and sales price amounts are the same, there will be zero net gain or loss. Otherwise, there may be a small loss, accounting for the sales costs. You may wish to use a special ID for the transaction’s description such as “[Company Name] NQ Opt” or “NQ Stk Opt – W2 Gain”. If a 1099-B was issued and the proceeds amount has not been reduced by selling expenses (e.g., commissions), enter the amount of the selling expenses as an adjustment in column (g) of Form 8949 and use adjustment code E in column (f). If no 1099-B was issued, reduce the gross proceeds by the selling expenses, but do not make a code E adjustment for columns (f) and (g). If no 1099-B was issued and no selling expenses were incurred, the transaction does not need to be included on Form 8949 (taxable income has been included in W-2 wages).

This would be an extremely rare case since the taxpayer would be required to front both the cost of the stock ($20,000 in our example) and be required to pay the employer an amount equal to the withholding taxes on the imputed gain ($100,000 in our example) which is being added to the taxpayer's W-2. If this occurs, nothing is required other than to report the W-2 income. The stock basis will be the exercise price ($120/per share in our example) and the holding period starts on the date the option was exercised (stock was purchased). The decision to hold the stock is an investment decision and the tax implications are the same as having purchased the stock on the open market on the date of the exercise.

Restricted stock units (RSUs) are not the same as restricted stock options. RSUs are an unsecured promise by the employer to grant a set number of shares of stock to the employee upon the completion of a vesting schedule. The stock is not issued at the time of the grant but only after the recipient of the unit satisfies the vesting requirements, which may be met once a predetermined amount of time has gone by or by either the company or the individual attaining pre-established, objective performance goals. If the requirements are not met or the employee leaves the employ of the company prior to the end of the vesting period, the units are typically forfeited to the company. Some types of plans permit a cash payment to be made in lieu of the stock, while most plans require that actual shares of the stock can’t be issued until the underlying vesting requirements are met.

Normally, an employee receiving restricted stock units is not taxed at the time of the grant but at vesting, when the restrictions lapse and the employee actually takes receipt of the shares or cash equivalent (depending on the company's plan rules). The amount of income subject to tax is the difference between the fair market value of the grant at the time of vesting, minus the amount paid for the grant, if any. This income is ordinary (compensation) income. There is no AMT preference as there is with ISOs. However, the taxpayer could still end up in AMT territory, but this would be due to the increased income, not any other specific attribute of the RSU.

When the shares acquired through the RSU plan are sold, the employee recognizes capital gain income or loss, either short- or long-term depending on the actual time the shares are held. The holding period of the shares begins at the date the shares are distributed (which may or may not coincide with the vesting date). The basis of the shares is equal to the amount paid for the stock plus the amount included as ordinary income.

Strategy – For same day sales of stock acquired via a stock option, Rev. Proc. 2002-50 provides that the broker is not required to issue Form 1099-B if certain conditions are met, such as when the broker doesn’t charge a commission and the employer certifies in writing to the broker that any compensation income generated in the transaction will be reported in the employee’s W-2 (or 1099 for an independent contractor).

When the exception in Rev. Proc. 2002-50 doesn’t apply, the broker must report the gross proceeds of sale for the transaction on Form 1099-B. In turn, even though the profit is included in the employee’s W-2, the taxpayer must report the sale on Form 8949 for the Schedule D to account for those gross proceeds of sale or risk generating correspondence from the IRS. However, frequently overlooked are the broker sales charges, which can generate a short-term capital loss. For example, assuming a 1099-B shows gross proceeds of $55,000, the option cost was $5,000, a brokerage charge of $300 was not reflected in the proceeds amount, and a non-statutory gain of $50,000 was added to the W-2, there would be a short-term capital loss of $300, and the Form 8949 entry for the transaction would look like: