Understanding Tax Implications of Stock Options and RSUs

Types of Equity Compensation

Incentive Stock Options (ISOs)

No tax at grant or exercise (for regular tax purposes)

Exercise may trigger Alternative Minimum Tax (AMT)

If held for 1+ year after exercise AND 2+ years after grant, gain is taxed as long-term capital gains

Disqualifying disposition results in ordinary income treatment

Non-Qualified Stock Options (NSOs)

No tax at grant

At exercise: spread between exercise price and fair market value is taxed as ordinary income

Subsequent gain/loss is capital gain/loss based on holding period

Restricted Stock Units (RSUs)

No tax at grant

At vesting: full fair market value is taxed as ordinary income

Company typically withholds shares to cover taxes (sell-to-cover)

Subsequent gain/loss from vesting price is capital gain/loss

Tax-Efficient Strategies

Exercise ISOs early when the spread is small to minimize AMT impact

Hold ISOs for qualifying disposition to get long-term capital gains treatment

Sell RSUs immediately if you want to diversify (no tax disadvantage since you are taxed at vesting anyway)

Use 83(b) elections for restricted stock to be taxed on grant date value

Spread exercises across years to manage tax bracket impact

Offset gains with losses from other investments

Taxation.ai handles the complexity of equity compensation taxation, including AMT calculations and optimal exercise timing recommendations.