How To Report Stock Options

Here are instructions for how to report stock options. Stock options are defined as a company’s offer to selected employees the option to buy a specific number of shares in the company’s stock within a period and at a price that is pre-set by their employers. These are usually offered to employees belonging to the supervisory or the managerial brackets. Companies offer stock options to its employees for varied reasons: to be a valued employer, to give employees a sense of ownership in the company thus increasing morale, but more importantly, aside from the salary and benefits that are already involved in their contracts, it is a way for the company to show a potential employee an additional perk with which the employee has the power or option to choose.

To report stock options, you will need.

  • W-2 Form
  • IRS Schedule D Form
  • 1099-B Form
  • IRS Form 1040
  1. An employee only needs to report a non-qualified stock option only when they choose to exercise the option.  The profit gained from the difference of the strike price and the actual market value on the day the option is exercised will be defined as the compensation element.  This amount will be included in the employee’s W-2 form’s box one.  Should the company exclude the “compensation element”, it is the employee’s sole responsibility to declare this in their 1040 income tax returns.  Should the employee choose to hold on to the stocks, this is the only step they will need to do in reporting their exercised option.
  2. If the employee chooses to sell the shares immediately or prior to the end of the year, they should complete the IRS Schedule D to report such a transaction.  The market price that was prevailing during the time the employee exercised the option will be used as the basis in filling out the said form.  Completing this form will allow the employee to determine whether the price difference from the market price during the time the option was exercised and the actual price when it was sold can be defined as a capital gain or a loss on their part. The Schedule D form is also used when the non-qualified stock options are sold after the end of the year when the employee exercised. 
  3. Qualified stock options, also known as incentive stock options will be reported on the tax year they are sold and NOT on the year when they were exercised.  These are special employee stock options that do not impose income taxes when these are granted or exercised.  Provided that the employee holds the stock shares for at least a year after the date it was exercised or two years after it was granted, then the profit gained from the sale of the said stock can qualify for the lower capital tax gains rates, otherwise it will be considered a non-qualified stock option (see above).  The Schedule D form is still used but this time the “strike price” the employee paid will be used as the cost basis and not the market price.
  4. When the stock shares are sold, it is automatic that the employee needs to include their 1099-B form together with their 1040 form when filing their income tax returns.  This form is provided by their broker and will serve as a documentation of when the sale of the stock was consummated and the amount that the employee paid to fulfill the necessary transactions.

All in all, it doesn’t take much on how to report stock options exercised by employees.  With the financial rut that most of the world’s economies are experiencing right now, stock options provided to employees are more-than-welcome additional perks for them to be more motivated in pursuing a goal that is in line with the success of the company that they’re working for.

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