My ESPP, sound like a good idea?

[clifp]

Folks ESPP are almost always fantastic deals. Although ESPP do vary by company. My ex-companies was a 15% on the lowest price at the start or end of a 6 month period (the same as Marquette's wife) which is a better than RDamiens. But even RDamiens is a good benefit.

Lets run through some number suppose the stock is $40 less $15% = $34
If you make $68K and contribute 10% for the ESPP that means you've contributed $3400 per 6 month period for 100 share@$40 meaning you've made a minimum $600 profit. But you've contributed the $3400 over a 6 month period, so the return on your last paycheck is fantastic. When we ran the numbers the IRR was equivalent to a 90% return a year for ESPP with purchases every 6 months. And that is worse case if the stock goes up it is better than that.

I'd also recommend keeping the stock for the 2 year period in order to take advantage of the favorable capital gain rate. If you hold the stock for 2 years from the start of the grant date everything including the 15% discount is treated as capital gains. (See Fairmark) Although others disagree.

My strategy at Intel was to keep 2 years of ESPP and then sell them to take advantage of the capital treatment. If you are contributing 10% of your salary you are holding 20% of your salary in company stock. If your net work is 2x or great than your salary this isn't a huge risk.

In fact if you work for a Megacorp it is possible to buy an 18 month put (leap) for roughly 10% the price of stock, this allows you to lock in your profit while holding the stock long enough to get favorable tax treatment.
Buying a long term put would probably be best in a situation like RDamiens.

[Finance Dave]

Originally Posted by clifp

Folks ESPP are almost always fantastic deals. Although ESPP do vary by company. My ex-companies was a 15% on the lowest price at the start or end of a 6 month period (the same as Marquette's wife) which is a better than RDamiens. But even RDamiens is a good benefit.

Lets run through some number suppose the stock is $40 less $15% = $34
If you make $68K and contribute 10% for the ESPP that means you've contributed $3400 per 6 month period for 100 share@$40 meaning you've made a minimum $600 profit. But you've contributed the $3400 over a 6 month period, so the return on your last paycheck is fantastic. When we ran the numbers the IRR was equivalent to a 90% return a year for ESPP with purchases every 6 months. And that is worse case if the stock goes up it is better than that.

I'd also recommend keeping the stock for the 2 year period in order to take advantage of the favorable capital gain rate. If you hold the stock for 2 years from the start of the grant date everything including the 15% discount is treated as capital gains. (See Fairmark) Although others disagree.

My strategy at Intel was to keep 2 years of ESPP and then sell them to take advantage of the capital treatment. If you are contributing 10% of your salary you are holding 20% of your salary in company stock. If your net work is 2x or great than your salary this isn't a huge risk.

In fact if you work for a Megacorp it is possible to buy an 18 month put (leap) for roughly 10% the price of stock, this allows you to lock in your profit while holding the stock long enough to get favorable tax treatment.
Buying a long term put would probably be best in a situation like RDamiens.

This is the first I've heard that the favorable cap gains tax rate is only after TWO years...I've always used ONE year. Do you know something I don't?

My company's ESPP allows me to buy at only 10% below market...not 15%...but still good. However, there are selling costs (nominal) to consider also.

Lastly, keep in mind that the stock price can go down...which you don't mention. My company's stock is currently at an all-time high...and I own zero stock in my company at the moment. Could it go higher? Sure. Could it go lower...yup. One never knows.

Dave

[clifp]

Originally Posted by Finance Dave

This is the first I've heard that the favorable cap gains tax rate is only after TWO years...I've always used ONE year. Do you know something I don't?

My company's ESPP allows me to buy at only 10% below market...not 15%...but still good. However, there are selling costs (nominal) to consider also.

Lastly, keep in mind that the stock price can go down...which you don't mention. My company's stock is currently at an all-time high...and I own zero stock in my company at the moment. Could it go higher? Sure. Could it go lower...yup. One never knows.

Dave

I am not a tax expert but the folks at Fairmark generally are.

Disqualifying dispositions
The amount of compensation income you report depends on whether your disposition is a disqualifying disposition. In general, this is any disposition (sale or gift) unless both of the following are true:

• It is more than a year after the purchase of the shares, and
• It is more than two years after the beginning of the offering period.

Many of these plans have an offering period of less than a year. In that case, holding the shares a year and a day won't be long enough to avoid a disqualifying disposition.

• Example: Your company's ESPP has a six-month offering period. You buy shares and, 13 months later, you sell them. This is a disqualifying disposition, even though you held the shares more than a year, because you didn't hold the shares until more than two years after the beginning of the offering period. To avoid a disqualifying disposition in this situation, you would have to hold the shares more than 18 months.

Of course you are right that there is a risk in holding an individual stock especially if your pay check is also tied to the company's fortunes.

Still in the example I gave lets say the stock goes from $40 to $60. If you sell you owe taxes on the difference between 100@ $60=$6,000 and the $3400 you paid. If you live in a high tax state your combined state and federal maybe in the mid 30% and possibly higher. Waiting 18 months can bring that rate down to ~20%. This will save you 15%*3400= $510 or roughly $5 a share. Assuming the stock remains at $60 and you sell after 18 months and pay 20% on your $3400 gain leaving you $5320.

If you sell immediately you owe the government 35%x$3400 = $1,190 in taxes leaving you $4810 to invest in something else. Lets say you are smart and/or lucky and buy an ETF/Fund that goes up 25% in the next 18 months, making it worth $6010. After paying your 20% fed+state cap gains on $1200 you are left with $5760 after tax, or $440 more than the company sock. On the other hand unless the fund and your company are unrelated assets (e.g. Small cap stock and gold) it is likely that if the fund went up 25% your company stock is up also. In fact if the company stock went by only 10% you are now better off having held the company stock.

Rather than automatically selling your ESPP. I think it is worth constructing a simple spreadsheet to determine your break even point. In general the greater the appreciation during the subscription period and the higher your tax bracket the move you save by holding on for 18 months to gain a better tax treatment.

All that being said there are plenty of valid reasons to sell immediately if you have doubts about the companies future, or more than 10-20% of your net worth is tied up in company stock.

[Finance Dave]

Originally Posted by clifp

I am not a tax expert but the folks at Fairmark generally are.

Thanks for the quote clifp....they mention a situation which doesn't apply at my company. They say "many" plans have short offering periods...I would have no knowledge of this other than my company.