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Author: Donuttopia Two stars, 250 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 121594  
Subject: Re: ESPP - income / gains / losses Date: 12/28/1999 2:08 PM
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If the stock was valued at $100 and I purchased it at $85 and then sold at $95 more than two years after purchase, I think I count $10 per share as income
& none as cap gains.

If it is less than 2 years, I'm reading that I have to count $15 as income and $5 as a cap loss. IS THIS RIGHT??????



Sounds familiar. I had the same issue last year. Your plan sounds virtually identical to mine. The pros seem focused on is it an Purchase or Option. Does yours work as mine, it makes the purchase at a discount to the lower of the beginning period price or the end of period price? ie. if it starts the month at $100 and ends the month at $200, you buy it for $85. If it starts the mnoth at $200 and ends the month at $100, you buy at $85. A very nice plan, I'll use it to highlight a difference in the posed question later.

As far as I can tell, I think your first scenario is incorrect. The second one is correct. In your case, the answer is the same for both. I posed the same question to Quicken TurboTax last year because I had the same result. Income with a capital long term capital loss because it was held more than one year.

Here is the gotcha, a disqualifying distribution, one that is sold before the two year holding period, is likely reported on your W2 (it may not be but frequently is). Be sure the computed income is not double counted on your return. As I recall, quite a few of the preparers in Money's tax test a year or two ago double counted them. The second gotcha is a qualifying distribution, one held more than two years, will not be reported and you are responsible for adding the income in.

I'm sorry I'm not more clear, however, hopefully an example will help. The crux is around what they call the incentive (instead of the discount) and disqualifying and qualifying distributions.

Here we go, in my example, the stock started the period at $100 and at the end of the period was $200. The company lets its employees buy the stock at $85. The discount to the beginning subscription period price.

Let say the Employee (Emp) holds the stock for two years and then sells it for $400. This is a qualifying distribution. The Emp will need to report $15 ($100-$85) as income, the value of the discount received. In addition, the Emp will report $300 ($400-$100) long term capital gain. You use the subscription price because you are declaring the $15 as income (if you use $85, you double tax yourself on the $15). Since the distribution is a qualifying distribution, the incentive (the real discount) of $115 (the $200 bought for $85) is not counted as income hence they call it the incentive portion of the plan.

In the case the employee sells it just before one year (short term capital gain) for $300. This is a disqualifying distribution because it is held less than two years. Here is the kicker. The real discount, fair value on date of purchase less the purchase price, has to be reported as income. In this case, $115 ($200-$85) with a Short term capital gain (STCG) of $100. If you are unfortunate enough to hold it between 1 and two years, it is treated the same, just that the gain becomes a LTCG. Which becomes important if you start to generate paper losses.

The loss scenario as the previous one, same purchase prices as above, but the Emp sells it just before one year for $150. In this case, the Emp has $115 ($200-$85) of income and a $50 ($150-$200) short term capital loss. If more than one year but less than two, the STCL becomes LTCL (and you lose on taxes as in the last scenario)

Next, the qualifying psuedo-loser. Same purchase as above, but after two years, the Emp sells at $150. As in the first scenario, the Emp has $15 ($100-$85) of income that they will need to report. However they also have $50 LTCG ($150-$100).

Finally, the real loser. Same purchase price, but after two years, you sell for $50. As before you have $15 of income, but now a $50 ($50-$100) LTC Loss. However, if you hold it less than two year, it is $115 ($200-$85) of income with a $150 ($200-$50) short term capital loss. Better hope you have the capital gains to suck up the difference.

That's my 2 cents on it, your mileage will vary because I definitely am no expert.

I would appreciate the pros giving this the once over for blatant mistakes.

-Donut

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