Search within this section
Select a section below and enter your search term, or to search all click Income taxes
Favorited Content
17.4 Income tax accounting for incentive stock options
Publication date: 31 Dec 2022
us Income taxes guide
Incentive stock options (ISOs) provide an employee with significant tax benefits by allowing the employee to exercise stock options, in limited amounts, without being taxed on the intrinsic value on the exercise date. To qualify as an ISO, an option must comply with certain Internal Revenue Code (IRC) requirements and restrictions. Refer to SC 10.6.4.3 for further guidance.
Although an entity treats nonqualified stock options and ISOs the same way when recognizing book compensation cost under ASC 718, the tax treatment for ISOs is different. Employers do not obtain a tax deduction for an ISO unless there is a disqualifying disposition by the employee (see TX 17.4.1). Therefore, a deferred tax asset is not recognized when an entity recognizes compensation cost for book purposes for such options.
17.4.1 Disqualifying dispositions for incentive stock options
A disqualifying disposition for an ISO occurs if the employee does not hold the shares for the minimum holding period required by the IRC. When there is a disqualifying disposition, the employee recognizes ordinary income for US tax purposes for the difference between the ISO’s exercise price and the fair value of the shares at the time the option was exercised. The employer will receive a corresponding tax deduction for the amount of income recognized by the employee (refer to SC 10.7.2.4 for further information). The tax benefit for the deduction is credited to income tax expense. Employers should not anticipate a disqualifying disposition because they are outside of the employer’s control. They should be recognized when they occur.
Excerpt from ASC 718-740-25-3
Recognition of compensation cost for instruments that ordinarily do not result in tax deductions under existing tax law shall not be considered to result in a deductible temporary difference. A future event can give rise to a tax deduction for instruments that ordinarily do not result in a tax deduction. The tax effects of such an event shall be recognized only when it occurs. An example of a future event that would be recognized only when it occurs is an employee's sale of shares obtained from an award before meeting a tax law's holding period requirement, sometimes referred to as a disqualifying disposition, which results in a tax deduction not ordinarily available for such an award.
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
Link copied
