CEP Tax Planning & Compliance 3 — Questions and Answers
Question 1: RSUs are taxed as ordinary income at:
- Grant date, based on target share value
- Vesting date, based on FMV of shares delivered (Correct answer)
- Sale date, based on proceeds
- Exercise date, based on the spread
Correct answer: Vesting date, based on FMV of shares delivered
RSU income is recognized on the vesting/settlement date when shares are delivered, based on FMV at that time.
Question 2: An ESPP that qualifies under Section 423 must offer all full-time employees a purchase price that is no less than:
- 50% of FMV on the offering date or purchase date, whichever is lower
- 85% of FMV on the offering date or purchase date, whichever is lower (Correct answer)
- 90% of FMV on the purchase date only
- 100% of FMV on the grant date
Correct answer: 85% of FMV on the offering date or purchase date, whichever is lower
Section 423 ESPPs may discount the purchase price to as low as 85% of the FMV on either the offering date or the purchase date, whichever produces the lower price.
Question 3: For a qualifying ESPP disposition, how is the discount portion (up to 15%) taxed?
- Always as long-term capital gain
- As ordinary income in the year of sale, capped at the actual gain (Correct answer)
- As ordinary income at the time of purchase
- As a non-taxable return of capital
Correct answer: As ordinary income in the year of sale, capped at the actual gain
In a qualifying disposition, the lesser of the actual gain or the purchase-date discount is treated as ordinary income; any remaining gain is long-term capital gain.
Question 4: A disqualifying ESPP disposition occurs when shares are sold:
- At least 2 years after the offering date and 1 year after purchase
- Before meeting the 2-year-from-offering and 1-year-from-purchase holding requirements (Correct answer)
- Within 30 days of a company merger
- Only when sold at a loss
Correct answer: Before meeting the 2-year-from-offering and 1-year-from-purchase holding requirements
A disqualifying disposition happens when shares are sold before holding them for 2 years from the offering date AND 1 year from the purchase date.
Question 5: Under Section 409A, a nonqualified deferred compensation plan that fails to comply may subject the employee to:
- A 10% early withdrawal penalty only
- Immediate income inclusion plus a 20% additional tax and interest (Correct answer)
- Forfeiture of the deferred amount
- Only a 6% excise tax on the deferrals
Correct answer: Immediate income inclusion plus a 20% additional tax and interest
Section 409A violations trigger immediate income inclusion of the deferred amount, plus a 20% additional tax and an interest penalty at the underpayment rate plus 1%.
Question 6: Which of the following equity awards is generally NOT subject to Section 409A if designed correctly?
- Phantom stock settled in cash 3 years after vesting
- An NQSO granted at a discount to FMV
- An NQSO granted at FMV with a standard 10-year term (Correct answer)
- A deferred RSU that settles 5 years after vesting
Correct answer: An NQSO granted at FMV with a standard 10-year term
NQSOs granted at FMV (no discount) with no deferral feature are explicitly excluded from Section 409A under the stock rights exception.
Question 7: The Section 3121(v)(2) special timing rule for FICA taxes on nonqualified deferred compensation means FICA taxes are assessed:
- Only when the compensation is actually paid out
- When the amount is no longer subject to a substantial risk of forfeiture (vesting) (Correct answer)
- At the time of the original deferral election
- On the date the plan is established
Correct answer: When the amount is no longer subject to a substantial risk of forfeiture (vesting)
FICA taxes on NQDC become due when the compensation vests (is no longer subject to substantial risk of forfeiture), not when it is actually paid.
CEP Tax Planning & Compliance 3
RSUs are taxed as ordinary income at: