Quick notes on what the section 83(b) election does for your tax planning
General rule: Internal Revenue Code §83(a)
- Whenever property is transferred in connection with the performance of services,
- the Fair Market Value (FMV) of property in excess of the amount paid for the property
- is included in gross income
- in the first tax year in which the rights in the property are
- transferrable or
- not subject to a substantial risk of forfeiture.
Special rule: §83(b)
- Within 30 days, a person may elect to include in gross income
- The FMV of the property minus the amount paid for such property
From Publication 525:
"You can choose to include the value of restricted property at the time of transfer (minus any amount you paid for the property) in your income for the year it is transferred. If you make this choice, the substantial vesting rules do not apply and, generally, any later appreciation in value is not included in your compensation when the property becomes substantially vested. Your basis for figuring gain or loss when you sell the property is the amount you paid for it plus the amount you included in income as compensation." (Source: IRS.gov, Publication 525, Taxable and Nontaxable Income, section on Restricted Property.)
- Mail to the IRS Service Center where a paper return would be filed.
- Send it using certified mail with returned receipt requested.
- A copy of the election statement is attached to your tax return.
To get a stamped copy of the election statement from the IRS:
- Include two copies of the 83(b) election statement in your mail to the IRS.
- In your cover letter, ask the IRS agent to stamp the copy received and mail it back to you.
- Include a self-addressed stamped envelope. The IRS agent will stamp one of the copies as received and mail it back to you in the envelope you provide.
- Keep this stamped copy with your tax records.This copy functions to establish that the IRS received your election statement in a timely manner.
The section 83(b) election does not apply to nonstatutory stock options or restricted stock units.
When it makes sense to make an 83(b) election:
- The client expects growth in the FMV of the property and including the FMV in income now is favorable compared to taxing the restricted stock in the year of vesting.
- The client paid full FMV for the property. In this situation the 83(b) election results in zero additional taxable income. Making the election prevents the build-up in value from being taxed as ordinary income upon vesting.
- The risk of forfeiture is small.
- The client is willing to bear the risk of forfeiture.
What you get with the 83(b) election:
- Any future growth in the value of the stock is treated as capital gain and taxed when the property is disposed.
What you give up with the 83(b) election:
- The client gives up the opportunity to defer income.
Without the 83(b) election, the client would include including the FMV of the property over time as the stock vests. With the 83(b) election, the client accelerates this inclusion in gross income.
- The client gives up cash.
With the 83(b) election, the individual pays tax now on income that might never materialize due to the substantial risk of forfeiture. In other words, the client is agreeing to pay tax now on cash that the client might not receive until sometime in the future (or might never receive).
Where to find sample language for an 83(b) election statement:
Concise explanation of the 83(b) election from the IRS:
"An election pursuant to IRC §83(b) allows a recipient of restricted property to be taxed when the property is transferred instead of when the property actually vests (at a later date when the value may be higher). The election must be made no later than 30 days from the date the property is transferred to the service provider, with no extensions. Generally, such elections are handled through the employer’s payroll department. Elections pursuant to IRC §83(b) are also common when an individual receives an interest in a partnership or receives equity before an entity makes an Initial Public Offering (IPO). See Revenue Procedure (Rev. Proc.) 93-27 and Rev. Proc. 2001-43. See Rev. Proc. 2012-29 for a model election pursuant to IRC §83(b)." (Source: IRS.gov, Equity (Stock) - Based Compensation Audit Techniques Guide.)