equal to the value of the stock on that date and the company will obtain a tax deduction at that time.
Financial statement expense recognition for stock options is generally based on estimated values of the options using an accepted option valuation model (e.g. Black-Scholes). Like restricted stock that contains vesting provisions, the financial statement expense is generally recognized over the service period, which may be the vesting period or estimated time to reach a performance measure depending upon the nature of the options. For tax purposes, however, treatment depends on whether the options are considered non qualified stock options (NSOs)or incentive stock options (ISOs).
Unless an option meets the requirements of Internal Revenue Code, SEC 422 for a qualifying incentive stock option plan, they are considered NSOs. Tax deductions
for NSOs are limited to the amount of income recognized by the employee upon exercise of the option, which may be more or less than the amount expensed for financial statement purposes. For ISOs, the company does not receive a deduction for issuance of the options, but the employee will be entitled to recognize income upon exercise at favorable capital gains rates.
Weigh the Options…
While this may initially seem like a panacea for all concerned, the decision to grant equity based awards should not be made lightly given some of the potential pitfalls, a couple of which are highlighted below.
Equity grants can be expensive.
The old bromide that “a rate commensurate with the risk involved” may apply because if your company is
experiencing significant growth in earnings and/or market share the cost of issuing equity instruments can potentially be much greater than the cost of borrowing to provide raises.
Equity grants can result in additional responsibilities on your part.
It is important to remember that generally your fiduciary responsibility to an “owner” is much higher than it would be for an employee. Because of this you should strongly consider consulting with legal counsel before you issue any equity awards.
Notwithstanding the above,equity ownership by employees can still be a great way to reward your key employees and obtain their “buy-in” and commitment. A careful consideration of the benefits, drawbacks and tax effects of the different equity plans may show that you can compensate people in a way that increases loyalty and incentives while saving you cash. Give those employees a stake in the future success of the business and you will have everyone pulling together to move your company forward. So the next time an employee comes to you asking for a raise, sit them down and say, “Let’s weigh the options…”
A FULL SERVICE PUBLIC ACCOUNTING FIRM
Come visit one of our dedicated professionals performing Audit (including Public Company Audits), Accounting and Tax Services.
www.tampacpa.com •
lrodriguez@tampacpa.com Kingery & Crouse
6-11-07.indd 1
2801 W. Busch Blvd. ste. 200 • Tampa, FL 33618 813.874.1280 ext.229
6/11/07 10:32:56 PM
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