I could cry!!!! Oh the tax pain I'm about to endure.

[ChiliPepr]

What is interesting is that, I believe, that if you were given a small percentage of the company vs being granted options and the company sold, your gain would be taxed at the capital gains rate and not ordinary income rates. So, the owner of the company, when they sold, probably paid a lower tax rate than the people excising options.

 

[Fermion]

At least you got something out of yours.

We had 40,000 stock options expire worthless after the company lagged the market post dot com boom. People hired just 2 years before us were multi millionaires.

Really opened my eyes to how much of a lottery ticket everything is. Which is why I don't make fun of people who play the lotto or trade stocks.

 

[photoguy]

My old officemate had something like 8M in options from dot coms but the price dropped from $80 to $60 the week he was able to exercise. He kept thinking it would go back up but it never did and they were worse than worthless.

He told me he was on the hook for a huge amount of taxes. I don't remember the details but somehow he managed to avoid the tax liability.

 

[ERD50]

... Getting $600,000 in stock options after working for 20-25 years then paying half of it in taxes does not by itself make one a rich man. ....

This is a problem I have with our current progressive tax code. Someone who has a one time taxable windfall (which probably was actually 'earned' over many years), they are treated the same as someone who has that income every year.

I'm fine with some level of 'progressiveness' in our tax system, a 'rich' person has more disposable income, and higher rates are not as 'painful' to them as they are a poor person. But someone who cashes in options that they earned over many years is simply not as 'rich' as the person who makes that same amount year in and year out - yet they are taxed the same (on the same types of income).

Not that I expect it to happen, but going from an 'income' based tax system (and I think 'income' is hard to define), to a 'spend' based tax system (National Sales Tax) would be better. Your spending is a better (but still imperfect) measure of wealth than 'income'. A person with $100M might have zero taxable income (sell stocks with no gain, live off some cash), but it is unlikely that they spend like a pauper.

I had a large cap gain one year (slipped up on my tax planning), and paid 'rich man' taxes. But my spending didn't change, because I knew that was a one time deal (and I reinvested it anyhow). So an NST would not have treated me like a 'rich man' that one year.

-ERD50

 

[mpeirce]

But someone who cashes in options that they earned over many years is simply not as 'rich' as the person who makes that same amount year in and year out - yet they are taxed the same (on the same types of income)..

There used to be a concept called "income averaging" that let you smooth out a spiking in incoming (up or down). Apparently farmers and fisherman can still do this to some extent.

When I cashed out my options I had the luxury of spreading it out over a few years. That helped with taxes quite a bit, though not everyone can do that.

Not that I expect it to happen, but going from an 'income' based tax system (and I think 'income' is hard to define), to a 'spend' based tax system (National Sales Tax) would be better. Your spending is a better (but still imperfect) measure of wealth than 'income'.

I agree that would be better, but the problem as I see it is that we're more likely to add more spending taxes, while NOT taking away income taxes. I know folks who advocate adding a national VAT without eliminating the income tax.

It'll be interesting to see if tax reform happens after the next presidential cycle. There are already some interesting proposals along those lines (see today's WSJ).

 

[2017ish]

There used to be a concept called "income averaging" that let you smooth out a spiking in incoming (up or down). Apparently farmers and fisherman can still do this to some extent.

....

yeah, I remember being pretty bummed when the 1986 tax reform got rid of 5 year averaging. (I finished law school in '85, and DW finished Med in '86....) Then again, we were poster children for repeal of the law, I suppose.

Another anecdote in support of tax diversification in retirement funds. You never know what the law is going to be ....

 

[Fermion]

I think a VAT would be a craigslist nightmare.

 

[NW-Bound]

Regarding the past "income averaging" allowance in the tax code, I remember being able to use it back in the early 80s. I think it is a lot fairer to people who have an income surge one year, then a lot lower the next.

I do not know when it was taken away, but in the late 2000s, as a freelance and contract worker, I had a high-income year that made me pay AMT with all kinds of deductions disallowed, followed by a year with little money coming in. The tax burden was nowhere as high as people with stock options, but enough to make me swear and curse. If my income were more even, I would be paying a lot lower taxes. But the tax code is not really about fairness, is it?

I could cry!!!! Oh the tax pain I'm about to endure.

I wonder if any tax payer has appealed to the Supreme Court, claiming that the tax code is violating the Eight Amendment prohibiting the federal government from imposing excessive bail, excessive fines, or cruel and unusual punishments...

But I guess it would be pointless, as we have had confiscatory marginal tax rates as high as 94%. In fact, the top federal tax rate was 70% as recently as 1980 for income above $563K in today's dollars.

See: Income tax in the United States - Wikipedia, the free encyclopedia.

 

[FIREd]

Taxes were finalized today. It was a large (large to me) stock cash out. Glad it's over with and done. Been paying quarterly and now the monkey is off my back with the final 1099's in and completed. A grand total of $263k paid to the Fed. for 2014.

Now back to a normal life.

Take heart from the fact that you only had the endure that pain once and not year, after year ,after year like others do...

 

[NW-Bound]

Take heart from the fact that you only had the endure that pain once and not year, after year ,after year like others do...

Yes, particularly those who do OMY, then OMY, then OMY...

Me, I would rather take off in my motorhome, touring the beautiful North American continent. Life's short, and there are many places to see.

 

[Fermion]

Yes, particularly those who do OMY, then OMY, then OMY...

Me, I would rather take off in my motorhome, touring the beautiful North American continent. Life's short, and there are many places to see.

Yet you bog yourself down with two homes.

I agree with seeing North America. Maybe South America too!

 

[NW-Bound]

Eh, I could have stopped work earlier when I had only one home, but I already bought the 2nd home before I discovered this Web site touting the benefits of goofing off early.

And about the motorhome, well, I am not a perpetual traveler, and need places to go back to to relax between RV trips.

 

[NW-Bound]

Back on federal income taxes, I just saw that the top 1% in the US makes 19% of all income, but pays 49% of the taxes. This is info from the IRS.

 

[Texas Proud]

What is interesting is that, I believe, that if you were given a small percentage of the company vs being granted options and the company sold, your gain would be taxed at the capital gains rate and not ordinary income rates. So, the owner of the company, when they sold, probably paid a lower tax rate than the people excising options.

If you were given a piece of the company you would have a taxable event... stock grants are taxable as ordinary income... sure, the gain is not, but it is not tax free...


Also remember that options are not always exercised... I would get very small options and at least half of what I received never paid me a dime... most of the time if they were positive it was only a few hundred dollars to less than $2K.... only the very first one was more valuable... but then they dropped the number given down... (these were given to every employee.... only the last couple of years did I get my own)...

 

[Texas Proud]

This is a problem I have with our current progressive tax code. Someone who has a one time taxable windfall (which probably was actually 'earned' over many years), they are treated the same as someone who has that income every year.

I'm fine with some level of 'progressiveness' in our tax system, a 'rich' person has more disposable income, and higher rates are not as 'painful' to them as they are a poor person. But someone who cashes in options that they earned over many years is simply not as 'rich' as the person who makes that same amount year in and year out - yet they are taxed the same (on the same types of income).

Not that I expect it to happen, but going from an 'income' based tax system (and I think 'income' is hard to define), to a 'spend' based tax system (National Sales Tax) would be better. Your spending is a better (but still imperfect) measure of wealth than 'income'. A person with $100M might have zero taxable income (sell stocks with no gain, live off some cash), but it is unlikely that they spend like a pauper.

I had a large cap gain one year (slipped up on my tax planning), and paid 'rich man' taxes. But my spending didn't change, because I knew that was a one time deal (and I reinvested it anyhow). So an NST would not have treated me like a 'rich man' that one year.

-ERD50

One of the options is to spread the options over a few years... most options I have heard about are good for 10 years... instead of waiting to the very end to cash out... start in year 6 with 20%.... might lower overall taxes... then again, it might not if the person is highly paid....

 

[Cobra9777]

...someone who cashes in options that they earned over many years is simply not as 'rich' as the person who makes that same amount year in and year out - yet they are taxed the same...

I'm quite sure there are legitimate cases where the progressive tax code is a penalty of sorts on windfalls. The OP might be such a case. But, as it pertains to stock options specifically, it's been my observation that the more frequent cases of tax shock are simply the result of inadequate planning.

I guess I was fortunate. Even after ER, no one ever forced me to exercise options to the detriment of my tax situation. I did have years that spiked into very high brackets due to option exercises. But that was my decision after weighing the price risk, timing, and other considerations.

My overall objective was to limit concentration in Megacorp stock and get the money into the balanced portfolio as quickly as possible without creating a tax disaster or sacrificing potential future growth. Usually, I exercised the oldest, in-the-money options every year, in approximately the same amount of shares as I was granted each year. So the income stream was spread out to minimize taxes and closely tied to what I "earned" on an annual basis.

Had I clung to them for years hoping for big gains, then exercised all at once and paid tax through the nose... well, I don't consider that a shortcoming in the tax code. It's just a less tax-efficient exit strategy.

 

[ERD50]

I'm quite sure there are legitimate cases where the progressive tax code is a penalty of sorts on windfalls. The OP might be such a case. But, as it pertains to stock options specifically, it's been my observation that the more frequent cases of tax shock are simply the result of inadequate planning. ...

Had I clung to them for years hoping for big gains, then exercised all at once and paid tax through the nose... well, I don't consider that a shortcoming in the tax code. It's just a less tax-efficient exit strategy.

Yes, but I was really commenting in the more general case. Someone might have variable income for any number of reasons, and the progressive tax can 'penalize' them, w/o income averaging offsets (which are not available for most anymore).

Someone might have a business that pulls in very little, and then they have a great year once in a while. If they are prudent, the keep their spending down to reflect the average, but they get taxed on the peaks.

FWIW, for the small options that I got from MegaCorp, as soon as I was able to exercise them, and they were ITM, I sold. I figure the options themselves were a sure thing (if ITM), but the future price of the stock was a gamble. In this case, I went with the sure thing. It worked out on average, and was still the prudent thing to do, even if the stock had gone up.

-ERD50

 

[mpeirce]

Also, we're tossing around the term "option" and the tax issues for ISOs and nonQuals (incentive stock options and non-qualified options) are quite different.