Posted on November 11, 2008 by Joseph M. Wallin

The Bailout Bill's Incentive Stock Option Savings Provisions

The Wall Street Journal reported yesterday that the Bailout Bill had in it provisions which "saved" taxpayers who had been stung by the alternative minimum tax on incentive stock options from their unpaid taxes and penalties and interest arising from their incentive stock option exercises prior to January 1, 2008.

The provision provides that any "underpayment of tax outstanding on the date of the enactment of this subsection which is attributable to the application of section 56(b)(3) for any taxable year ending before January 1, 2008, and any interest or penalty with respect to such underpayment which is outstanding on such date of enactment, is hereby abated."

Section 56(b)(3) is the provision which provides that the gain on the exercise of incentive stock options is an alternative minimum tax adjustment.  So, the Bailout Bill says, quite literally, if you owe taxes attributable to the exercise of incentive stock options for a tax year ending before January 1, 2008, and interest and penalties on such taxes, you don't have to worry about it!

Taxpayers who paid the AMT in ISO exercises prior to January 1, 2008, might want to consider their refund alternatives.

Taxpayers should also be aware that the provision is only effective for ISO exercises prior to January 1, 2008, and does not extend into the future.

 

 

 

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Posted on September 12, 2007 by Joseph M. Wallin

ISOs, the AMT, and the Pain Taxpayers Feel

In a recently decided Tax Court case, Marcus v. Commissioner, 129 T.C. No. 4 (August 15, 2007), another taxpayer lost in a case involving the exercise of incentive stock options ("ISOs") in highly appreciated stock before the bursting of the stock market bubble in 2001.

In a series of option exercises beginning in 1998 and continuing through 2000, the taxpayer exercised ISOs on 40,362 shares of stock having an aggregate fair market value of $5.9M.  The taxpayer paid $175,000 to acquire this stock.  As a result of exercising the ISOs, the taxpayer incurred significant AMT liability, and on his first tax return filed for 2000 paid $1.6M in AMT.

In 2001, the taxpayer sold 30,297 of the shares for a total of $1.6 million.  The taxpayer had a regular tax basis in those shares of $127,920, the exercise price.  Thus, for regular income tax purposes in 2001 the taxpayer had capital gain of $1.5M.  The taxpayer's AMT basis in the shares sold in 2001 was $4.4M.  Thus, for AMT purposes the taxpayer had a capital loss of $2.7M in 2001.

The taxpayer filed an amended 2000 tax return and reduced his 2000 AMTI by a claimed alternative tax net operating loss ("ATNOL") deduction carried back from 2001 in the amount of $1.9M.  The IRS denied this deduction and issued the taxpayer a deficiency.

Generally, a taxpayer may carry back a net operating loss ("NOL") to the 2 taxable years preceding the loss, then forward to each of the 20 taxable years following the loss.  For AMT purposes, taxpayers take an ATNOL deduction in lieu of an NOL deduction.  An ATNOL is deduction is defined as the NOL allowable under Section 172, taking into account certain exceptions and adjustments and preference items. 

In Marcus, the Tax Court did not find any statutory support for the taxpayer's argument that the difference between the adjusted AMT basis and the regular tax basis was an adjustment, to the taxpayer's ATNOL, which would have created an ATNOL that the taxpayer could then carry back from 2001 to 2000.  The Tax Court also held that the stock sold was a capital asset and thus did not create an ATNOL due to the restrictions of Section 172(d) of the Internal Revenue Code, citing Merlo,a case we previously blogged about, and which the taxpayer also lost.

The result in Marcus is harsh.  It would seem fair that a taxpayer could carry back an AMT loss on stock sold when the taxpayer included a sizeable amount in AMT in a prior year on the exercise of an ISO.  However, it appears that taxpayers are going to have to wait for Congress to fix this, because the courts are not willing or unable to do so.
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Posted on August 13, 2007 by Joseph M. Wallin

Incentive Stock Options and the AMT--Woes for Taxpayer

In Robert J. Merlo v. Commissioner, the taxpayer feels the full brunt of the the harshness of the alternative minimum tax in connection with the exercise of an incentive stock option.  The taxpayer exercised an incentive stock option for public company stock in the tax year 2000, when the stock was worth over $1 million.  The taxpayer could not sell the stock during 2000 because the company's blackout period was in effect throughout the remainder of the tax year 2000.  The stock became worthless in 2001, and the Tax Court held that the resulting capital loss could not be carried back as an alternative tax net operating loss to the tax year 2000 to offset the income from the options exercise. 

The United States Court of Appeals for the Fifth Circuit affirmed the Tax Court, holding that the taxpayer's stock was not subject to a substantial risk of forfeiture in 2000 despite the blackout, and that the taxpayer could not carry back the alternative tax net operating loss from the tax year 2001 to the tax year 2000.  "The mere fact that a restriction prevented Merlo from transferring the shares during the blackout period was not enough to cause Merlo to forfeit the shares."

One benefit of non-qualified or non-statutory stock options is that the spread on exercise is not an alternative minimum tax adjustment.  Sure, income and employment tax withholding is required upon exercise, and this can make exercise more difficult, but it certainly avoids the issue the taxpayer in Merlo confronted.
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