Companies are always trying to attract talented workers by granting options to either purchase company stock at a discounted price, which the employee can then sell for (hopefully) at a higher price or as a simple 'perk' for being employed. Understanding the difference is paramount in lowering your tax burden. NON-QUALIFIED and INCENTIVE STOCK OPTIONS ("Qualified" Stock Options) are the two most common types of stock options employers arrange for their employees.
Generally, you will owe no tax when Non-Qualified options are granted. You are required to pay ordinary income tax on the difference, or "Spread," between the Grant Price (the price the company sold you the stock) and the stock's current market value (set at the exchange close on the day of execution) when you purchase ("exercise") the shares. Companies get to deduct the "Spread" as a compensation expense. Non-qualified options can be granted at a discount to the stock's market value. They also are "transferable" to children and to charities, provided your company permits it. Incentive Stock Options (aka "Qualified" Stock Options), qualify to receive a special tax treatment. Your income tax is deferred until you sell the stock so, there is no income tax due at when the options are granted or exercised. At that point, the entire option gain (the initial spread at exercise plus any subsequent appreciation) is taxed at long-term capital gains rates, provided you sell at least two years after the option is granted and at least one year after you exercise. If you don't meet the holding-period requirements, the sale is ruled a "disqualifying disposition," and you are taxed as if you had held non-qualified options. The spread at exercise is taxed as ordinary income, and only the subsequent appreciation is taxed as capital gain. Unlike non-qualified options, Incentive Stock Options may not be granted at a discount to the stock's market value, and they are not transferable, other than by a distribution from a will or trust from the death of the stock options holder. IRS caps the annual amount of Incentive Stock Options exercised in one year to $100,000. The spread at exercise is considered a "preference item" for purposes of calculating alternative minimum tax (AMT), increasing the taxable income for AMT purposes (Bargain Element). A disqualifying disposition can help avoid this tax. Choosing the right moment to exercise is not as easy as it looks. Improperly exercising stock options can cause real financial headaches, particularly when it comes to paying taxes on your profits. Even if you keep the stock you purchased, you may still have to pay taxes. Many employees are not aware of a strategy for exercising their stock options, which could produce large tax bills when April 15th rolls around. For many recipients of stock options, employees will wait until the stock price increases so they can use the "windfall" for a big vacation or major update to their house. By waiting, employees may lose their control of when to sell because their options expire and they are forced to sell before they lose all their value. Employees need a disciplined strategy when evaluating stock options, in order to make the smartest possible financial decisions. Here are Key Questions to Ask for a Successful Financial Outcome Timing - When are the Stock Option Vested? A typical vesting schedule is over four years, with one-quarter of shares vesting after each year. It's important to understand when you will actually acquire the shares. Once the shares are vested, you can exercise and sell that portion of the stock options. Taxes - What is the Projected Overall Tax Bill? By exercising and selling your options assures the stock is taxed at an elevated rate and it will directly affect other sources of income, high tide raises all ships. One of the best pieces of advice is to project the overall tax burden from exercising and selling the options. Timing is everything, waiting a year before selling should qualify the option into capital gains tax rates instead of ordinary income tax rates. This decision involves risk because if the stock price falls after exercise to where the stock options become worthless, the exercise may still be subject to the Alternative Minimum Tax. Asset Allocation - How much is too much? The "Concentration" Risk has to be considered so that the success of a portfolio is not dependent on one fluctuating stock price. It is important to have a disciplined financial plan that incorporates an exit strategy that will rebalance if any one stock appreciates over a certain percentage of the overall portfolio (say 10%). We have seen plenty of retirement plans go to zero during the "Tech Bubble" in the early 2000's and just 8 years later. Measuring Stick - What are the Quantitative, Qualitative and Technical Attributes of the Company? Many clients love their company they work for and who can blame them? Working here in the Motor City we are constantly helping executives from the Big Three as well as Automotive Suppliers and they all come in with the same mindset that their companies have been very good to them. They have built a nice living, putting children through college and saving up for a pretty nice retirement. They are right, but it still smart to check the vitals on any organization in any industry, especially when everything is becoming more and more global. There are a lot more moving parts in investigating fundamentals of any company. Simply understanding the Average Deviation of the company's stock can help determine the trend and volatility to pinpoint the overall risk a single stock can impose on the overall performance of a portfolio. Dollar Cost Averaging - Is there a Stock Purchase Plan? Employees generally have access to an employee stock purchase plan (ESPP). By understanding the vested schedule and options that are available, an employee can establish target prices to exercise and sell their respective options. DILUTE and STOCK BUY-BACK - What is the Company News? Not talking insider trading, but keep an eye for company news regarding its stock, especially if they plan to release more stock into the market or what the trends have been lately are stock buy-backs. This is the case where less is better, normally. A third-party professional trained and focused in this area can help tremendously in putting together a plan that will reduce costs, taxes and risk while improving the overall effectiveness of having a stock option plan in the first place. We at C.L. King & Associates offer professional assistance and tailored option exercise programs for your incentive stock options, non-qualified stock options and stock options granted to affiliates. C.L. King will create a customized plan to coordinate the tracking, financing and exercising of stock options. We will tailor our procedures to meet your needs and ensure that you receive same-day notification of affiliate transactions for Form 4 reporting purposes.
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'Can you trust stock brokers?' Talk about a loaded question. Anytime you're trying to evaluate the trustworthiness of a whole profession or a wide class of people, you might run into the very common problem of stereotyping. One bad apple (or a few dozen) doesn't necessarily have to spoil all apples. Still, many people do think in terms of generalities and this is a reality we have to live with. Here are some important factors to consider when trying deciding whether you can trust stock brokers or not. Which stock broker? In deciding whether you can trust stock brokers or not, you have to remember that there are actually many different types of stock brokers. Many people lump all brokers in one class and judge this class. This is not fair considering the different types of stock brokers out there. Here are just a few of the most common classes of stock brokers. Trading broker This stock broker just executes your trades for you. This broker doesn't make any recommendations regarding which stock to buy or sell. Sales broker This stockbroker actively 'pitches' clients on stocks to buy. By law, such brokers are required to disclose if their company has a vested interest in the stocks they are pushing. Analyst While not technically a stockbroker, analysts are very influential opinion makers in the world of stocks. They study particular stocks or industries and recommend stock buys or sales. Like sales brokers, they are required by law to disclose whether the company they work or they themselves have an interest in the stocks they are recommending. As you can tell from the descriptions above, it would not be fair to say trading brokers are 'untrustworthy' because they merely execute trades on behalf of their clients. It would be fair to ask, however, whether you can trust an analyst or a sales broker. While most of these brokers are on the up and up, there are quite a number of shady operators who give the whole industry a bad name. Many of the more aggressive shady operators use boiler room operations and pressure sales tactics to victimize investors. What follows is a quick guide on how you can protect yourself from shady stock brokers and stock sales operators. Protecting yourself from shady operators: a basic guide This guide is not meant to be an exhaustive guide on how to avoid being victimized by shady stock brokers. Instead, this guide lays the basic groundwork you should follow to minimize your chances of being ripped off. As always, if something is too good to be true, it usually is. How to Find Brokerage Companies to Trust with Your Money Trust only Legitimate Companies Companies spend a lot of time and money building a solid corporate brand. A solid brand is the result of many satisfied customers and a very minimal level of customer complaints. Not all businesses and firms in the financial industry can lay claim to a solid brand. If you get solicited by a stockbroker, either over the phone or through an email or physical mail, your eyes should quickly search the message for the logo of a company you can recognize. If you don't recognize the company, research it quickly online. If it is a solid company with a solid reputation, you should be able to quickly dig up many mentions of the company as well as possible awards or big projects. Ask to see the research Assuming that you're dealing with a legitimate company, don't let this fact lull you into thinking that you should do business with the broker. You need to be vigilant. Just because you are dealing with a company with a good reputation doesn't necessarily mean you won't get ripped off. There is always a first time for everything. Ask the broker for research materials and other objective information you can research which backs up the broker's conclusion that the stock he or she is recommending is due for a 'breakthrough.' Pay attention to earnings, earnings growth, industry ranking, market share, and industry growth so you can make a truly informed decision. Don't just take the broker's word for it. Take what you read online with a grain of salt Your next step is to do research on the individual company being recommended to you. Take a look at what other people have to say about the company. At this stage, you have to remember that there is no such thing as 100% favorabilitiy. There will always be negative stuff online because there are haters all over the Internet. In fact, many negative blog posts and articles are actually written by competitors of the company. This is not the problem. The problem is if you see a constant negative pattern. Where there is smoke there is fire, after all. If you see such a pattern regarding the company you're researching, stay out of the stock. When in doubt, stay out. Be on your guard when researching stock forums Another resource you should check is stock forums. You'd be surprised at the nuggets you can unearth using stock forums when researching your stock picks. With that said, keep in mind that there are many people engaged in 'pump and dump' scams on stock forums. Be on your guard. Always look for secondary information besides what the promoter or poster is saying regarding a certain stock. Can you trust stock brokers? The answer, of course, is it depends. It depends on the type of stockbroker, and it depends on the nature of the investment opportunity the broker is pushing. By following the tips listed above, you can increase your chances of avoiding victimization by boiler room operations and pump and dump schemes. For more info you can consult with the experts at C.L. King & Associates. C.L. King is a full-service investment bank and self-clearing broker-dealer founded in 1972. We provide investment banking, equity research, sales and trading, and investor services to corporations and institutions. |
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