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What is Employees Stock Purchase Plans Section 423 - ESPP

What is Employees Stock Purchase Plans Section 423 - ESPP

A type of fringe benefit offered to employees of a certain business is an employee stock purchase plan (ESPP). The business allows the employees’ option to purchase the company’s stock right after-tax deduction from their respective pay which is under these types of plans.

The price in which an employee pays per share is less than the stock’s fair value of the market and the plan can specify that price. Up to 15% discount on the purchase price of the stock can be offered to a qualified ESPP (the one who meets all the rules laid out from the Internal Revenue Code in section 423).

There are four phases that the ESPP goes through generally which is the grant, offering period, transfer, and disposition. After-tax earned income for purchasing a stock the ESPP is designed to use for it. After selling the stock and having the income and when you realize the gains that’s the time that taxes are to be collected. The gains in your taxes can support you in regulating if ESPPs are the best choice for by means of knowing the lingo.

In order to purchase stock in the company, the employer allows its employees the option at a fixed price.

Offering Period

The time when employees accumulate savings for future purchases of the company’s stock that is called the offering period. A percentage or fixed dollar amount will be deducted from each of their checks and it was chosen by the employees. 

The deductions will come about the after-tax basis on the payroll. Before the money is set aside for ESPP purchases, the income tax and Federal Insurance Contributions Act (FICA) - Social Security and Medicare withholding- have already been taken out.

Transfer Phase

The employer takes all the cash that has been already saved up and makes use of that cash to purchase shares of the company’s stock and this will only happen at the end of the offering period.

The ESPP plan will acquire shares of the stock from the company and transfer ownership of the stock to the employees who are participated by the securities brokerage administered. The cash that was not used in purchasing stock will be refunded back to the employee.

The company publishes documents to its employees in transferring ownership of the shares. Two copies of Form 3922- one to the employee and one to the IRS - to document facts relating to the transfer of shares, this will be sent and done by the company.

A trade confirmation was also sent by the brokerage house of the administering ESPP.

For participating employees, the company sets up a brokerage account, and the ESPP is deposited under the shares being purchased. The shares are purchased and transferred to you with no tax impact; however, when you sell the shares there are tax implications. 

Disposition Phase

You are free to do as you please after the shares are transferred into your name. You are allowed to sell, trade, exchange, transfer, or even give them away. Tax impacts trigger if you dispose of ESPP. There are three factors that depend on the tax impact:  

  • Time frame in owning the stock

  • The selling price

  • Number of shares being sold

The number of shares being sold as well as the selling price will determine the income amount or even the compensation income of a person that earns from the sale of the stock. The number of shares sold results in the gross proceeds from the sales transaction will be multiplied by the selling price. The amount of share was purchased for and the value of a market share is the compensation income. 

In determining how the sales transaction is being categorized is through the length of time a person has owned the shares. Along with the holding periods, the tax treatment can be determined in the category.

Holding Periods

In dictating a transaction’s classification there are two holding periods. The grant date to the day sold while the other is the day sold from the transfer. In broken-down into qualifying or non-qualifying transactions is further the disposition of the stocks.

The grant date to the day sold, or the transfer date to the day sold are the two holding periods.

It was categorized twice in selling ESPP shares - first, qualifying or non-qualifying disposition for each sale of ESPP. Second, it is either short-term or long-term sales.

It is any sale or transfer of ownership of the ESPP shares after the person has held the stock for both is referring to a qualifying disposition:

  • It is more than one year after the date of transfer

  • The options were granted after more than two years 

Non-Qualifying Disposition

Any sale or transfer of ownership of the ESPP shares that don’t satisfy the criteria for the qualification of disposition spelled above is a non-qualifying disposition. The sales of ESPP shares that occur both is a non-qualifying disposition:

  • A date before one year after the transfer

  • After two years of the grant date

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