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TAX NEWS - DECEMber 2009

stock options: Final regs address information reporting for stock options

The Treasury Department on November 16 issued final regulations relating to the return and information statement requirements under section 6039, which, as amended, imposes return and information statement reporting requirements on any corporation that transfers stock pursuant to an individual's exercise of an incentive stock option (ISO) or an option under an employee stock purchase plan (ESPP). These returns and statements are due by January 31 of the calendar year following the calendar year in which the transfer occurred. The primary objective of the final regulations is to require corporations to furnish employees sufficient information to enable them to calculate their tax obligations upon dispositions of shares acquired under an ESPP or pursuant to the exercise of an ISO. The final regulations are generally similar to the proposed regulations, with some differences discussed below.

The proposed regulations, issued in July 2008, waived the return requirement for 2007 and 2008. The final regulations waive the return requirement for 2009. Although the return requirement has been waived for these years, corporations must still provide employees information statements, and statements related to transfers in 2009 must be furnished to employees by January 31, 2010.

The final regulations apply as of January 1, 2007. For information statements related to transfers that occurred in 2007 or 2008, taxpayers may rely on section 1.6039-1 of the 2004 final regulations or section 1.6039-2 of the 2008 proposed regulations. With respect to information statements related to transfers in 2009, taxpayers may rely on section 1.6039-1 of the 2004 final regulations, section 1.6039-2 of the 2008 proposed regulations, or these final regulations.


Return and information statement requirements

Incentive stock options -
Section 6039 requires any corporation that transfers to any person a share of stock pursuant to such person's exercise of an ISO to file a return with the IRS and furnish an information statement to the individual who exercised the ISO, with respect to each transfer made during the year. With respect to ISOs, the final regulations contain the same information that is required under the proposed regulations. The regulations specify the information that generally must be included on the return and information statement.

Employee stock purchase plans - With respect to transfers pursuant to the exercise of an option under an ESPP, section 6039 requires any corporation that transfers legal title of a share that was acquired by an individual pursuant to the exercise of the option, and where the exercise price is less than 100 percent of the value of the stock on the date of grant, to file a return with the IRS and furnish an information statement to the individual who exercised the option. Again, the return and information statement generally must include certain basic identifying information.

In addition, if the exercise price is not fixed and determinable on the date of grant, the return and information statement must also include the exercise price per share determined as if the option were exercised on the date the option was granted. Note that this has been modified by the final regulations. One of the features of an ESPP is that options can be granted at up to a 15 percent discount. This modification takes into account options that are granted with exercise prices that are less than 100 percent of the fair market value and the exercise price is not fixed or determinable on the date of grant. An exercise price may not be fixed or determinable when options are granted with exercise prices that are determined based on a percentage of the value on the date of exercise (for example, an exercise price equal to 85 percent of the fair market value on the date of exercise).

Return and information statement forms - The return and information statement related to a transfer pursuant to an exercise of an ISO must be furnished using a Form 3921 (or its designated successor); with respect to a transfer pursuant to an exercise of an ESPP option, the required form is Form 3922 (or its designated successor). If a corporation fails to file a return or furnish an information statement, it may be subject to penalties under sections 6721 or 6722, respectively.

The IRS expects to release Forms 3921 and 3922 in the near future. In the interim, taxpayers may satisfy the return and information statement requirements by submitting substitute Forms 3921 and 3922 in accordance with Publication 1179 (or its designated successor).


Notable changes from proposed regs

The final regulations provide additional guidance regarding the transfer of legal title of shares acquired pursuant to the exercise of an option under an ESPP, clarify the applicability of the reporting requirements to disqualifying dispositions, and create an exception for the return requirement with respect to certain nonresident aliens.

Transfer of legal title - The final regulations provide that when shares acquired under an ESPP are directly deposited to a brokerage account established on behalf of the employee, the first transfer of legal title occurs when the shares are transferred to the broker or financial institution immediately following the exercise of the option. As a result, a corporation's reporting obligations are triggered when the shares are deposited to the brokerage account. Under these circumstances, the date the option is exercised and the date legal title is first transferred will be the same.

If, however, a corporation issues stock directly to the employee or registers the shares in the employee's name on its record books, and the employer or its transfer agent holds the shares for the employee in book-entry form, then this arrangement is not considered the first transfer of legal title, and the employer's section 6039 filing obligations would not be triggered.

The employer would not be required to report the transfer until the first transfer of legal title, such as when the employee sells the stock or transfers the stock to the employee's brokerage account. In this case, the date the option is exercised and the date legal title is first transferred will not be the same.

Qualifying or disqualifying dispositions of ESPPs - The final regulations clarify that the return and information statement requirements apply to the transfer of legal title pursuant to either a qualifying or disqualifying disposition. In addition, the final rules clarify that these requirements apply to transfers of legal title pursuant to ESPP options that do not have a fixed or determinable exercise price on the date of grant, as well as to transfers of shares acquired pursuant to the exercise of an option that has an exercise price that is less than 100 percent of fair market value on the date of grant.

Nonresident aliens - The final regulations provide an exception to the return requirements with respect to certain nonresident aliens. A corporation is not required to file a return with respect to transfers pursuant to ISOs and ESPP options held by nonresident aliens. This exception applies with respect to a nonresident alien to whom the corporation is not required to provide a Form W-2 for any calendar year during the period beginning with the first day of the calendar year in which the option was granted and ending on either the last day of the calendar year in which the ISO is exercised, or, with respect to ESPPs, the last day of the calendar year in which the employee first transferred legal title of the acquired shares. A corporation includes, but is not limited to, the corporation issuing the stock, a related corporation, any agent of the corporation, any party distributing the shares of stock or other payments in connection with the plan (for example, a brokerage firm), and any party in control of the payment of remuneration for employment to the employee. The corporation would remain obligated to provide an information statement to the nonresident alien.
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