Incentive Stock Options
Incentive Stock Options (ISO) are only granted to company employees. They can be vested for up to $100,000 of underlying stock value each year. ISO must expire after ten years. They are not transferrable. ISOs have preferential tax treatment. The tax rules for ISOs allow you to pay long-term capital gains if certain conditions are met.
Long-term capital gain tax is payable on the difference between the sale price and the exercise price. To receive this tax benefit, the ISO holder must keep the stock for one year and one day after the exercise date and at least two years and one day from the grant date.
If the sale date does not meet the above requirements, ISO is disqualified as such and treated as NSO. In that case, you will owe ordinary income tax and short/long-term capital gain taxes.
Alternative Minimum Tax is applied on the difference between market price and exercise price in the year of exercise. You have to report the difference (also known as the bargain element) to IRS. This may have an impact on your final tax at the end of the year, depending on various other deductions.
Restricted Stock Units (RSUs)
A restricted stock unit (RSU) is a type of equity compensation given by an employer to an employee in the form of company stock. Employees receive RSUs through a vesting plan and distribution schedule after achieving certain performance milestones or upon remaining with their employer for a set period. RSUs give an employee interest in company stock, but they have no tangible value until the vesting is complete.
The fair market value of your vested RSUs is treated as personal income in the year of vesting. Typically, companies withhold part of the shares for federal and state income taxes. The remaining shares are given to the employees. At this point, you can decide to keep all shares or sell them at your wish. If your employer doesn’t withhold taxes for your vested shares, you will be responsible for paying the corresponding taxes during the tax season.