If you work at a publicly traded company, part of your compensation may include stock options. Stock options give employees the option to purchase shares in a company either at a discount or at a fixed price. When you are planning your estate, you may wonder what will happen to stock options that you have not exercised.
First, some stock options automatically expire on death. You should consult any paperwork your company gave you when you received the options to see if this is the case. Expiration means that no one can inherit the options and they simply become invalid. Sometimes, stock options allow you to designate a specific beneficiary who can exercise the options after your death.
Second, you can pass on some stock options to relatives or to a trust, during your lifetime or through your estate plan. Some types of stock options are not taxable right away, but if you give them to a relative or trust during your lifetime then you (not the recipients) will have to pay taxes on them when the options are exercised.
When you pass on stock options through your estate plan, different types of stock options are treated differently. Non-qualified stock options (NQSOs) do not require any income tax withholding, and only require FICA withholding if a transaction is completed in the same calendar year as the original holder’s death. Some NQSOs allow beneficiaries to exercise the options after the original holder’s death. But the NQSO’s fair market value as of the holder’s death date will be part of his or her taxable estate. The beneficiaries pay tax on the difference between that fair market value and the value when they exercise the option.
For incentive stock options (ISOs), transferring shares to the estate of the deceased person is not a “disposition” that would cause the deceased person’s estate to report income if the shares gained value. Instead of receiving the shares directly, there is also a way for the estate to receive the unexercised ISO options. ISOs are exempt from tax withholding. As a result of all this, of the stock option types, ISOs are treated most similarly during probate to non-option assets like already purchased stocks.
Employee stock purchase plans (ESPPs) are plans that take money from employees’ payroll and contribute it toward stock purchases. Between the time an offering is made and when the employees purchase the stock, the plan accumulates this money so that the employee can make as large a purchase as possible. Unlike for ISOs, transfer to a deceased person’s estate is a qualifying disposition. The compensation earned from stock purchases or accumulated prior to purchase will be reported for tax purposes.
Stock options are quite complex, and this article does not explore everything you need to know about passing them on through your estate plan. Consult an estate planning attorney to learn more.
Do you need to plan your estate, which may include some stock options? Look to Janet Brewer, Esq. for thorough and thoughtful estate planning advice. Janet’s more than 20 years of legal experience will give you confidence and peace of mind. To schedule a “Get Acquainted” meeting, visit Janet's website or call her office at (650) 469-8206.