The ERISA consultants at the Retirement Learning Center Resource regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings plans. A recent call with a financial advisor from California is representative of a common inquiry related to restricted stock awards. The advisor asked:
“What’s an 83(b) election?”
Highlights of the Discussion
An Internal Revenue Code Section (IRC §) 83(b) election is a tax tool relating to the transfer of property in connection with the performance of service. It provides an option to change the standard tax treatment of restricted stock grants and is typically used in start-up companies.
With restricted stock, employees are given shares or the right to purchase shares (sometimes at a reduced price), but they cannot take possession of the shares until they meet certain requirements (or, the restrictions are lifted). Restrictions can include working for a set number of years, or meeting specified performance goals. The restrictions can phase out or cease immediately. While the employee holds the restricted stock, it may or may not provide dividends or voting rights.
There is some flexibility regarding taxation with restricted stock grants. Employees can choose whether to be taxed when the restrictions lapse or when the right is first granted. If taxation occurs when the restrictions lapse, employees will pay ordinary income tax on the difference between the current price and anything they may have paid for the shares.
Taxation upon grant for restricted stock may occurs only if the individual files an IRC §83(b) election. (Note that recipients of restricted stock units are not allowed to make IRC §83(b) elections.) In that case, the individual pays tax on the difference (if any) between the current price and the purchase price at ordinary income tax rates, and then pays capital gains tax when he or she actually sells the shares. Thus, the value of property with respect to which this election is made is included in gross income as of the time of transfer, even though such property is not yet vested at the time of transfer.
An 83(b) election carries some risk. If an employee makes an election and pays tax, but the restrictions never lapse, the employee does not get a refund of the taxes paid, nor does the employee get the shares.
In Revenue Procedure 2012-29, the IRS presents some sample language that would satisfy the IRS regulations for making an 83(b) election. In addition, Revenue Procedure 2012-29 provides examples of the tax results that may occur as a result of an IRC § 83(b) election.
Conclusion
An 83(b) election is a tax tool. An individual who receives restricted stock awards will want to discuss whether making an 83(b) election makes sense given the individual’s unique financial situation.
Any information provided is for informational purposes only. It cannot be used for the purposes of avoiding penalties and taxes. Consumers should consult with their tax advisor or attorney regarding their specific situation.
©2019, Retirement Learning Center, LLC. Used with permission.
