{"id":1509,"date":"2015-03-22T16:57:52","date_gmt":"2015-03-22T16:57:52","guid":{"rendered":"http:\/\/www.patellawoffices.com\/blog\/?p=1509"},"modified":"2016-11-22T16:59:59","modified_gmt":"2016-11-22T16:59:59","slug":"which-is-better-an-incentive-stock-option-aka-a-statutory-stock-option-an-iso-or-a-nonqualified-stock-option-aka-a-nonstatutory-stock-option-an-nqo","status":"publish","type":"post","link":"https:\/\/patellawoffices.com\/blog\/planning-for-tax-minimization\/which-is-better-an-incentive-stock-option-aka-a-statutory-stock-option-an-iso-or-a-nonqualified-stock-option-aka-a-nonstatutory-stock-option-an-nqo\/","title":{"rendered":"Which is better: an Incentive Stock Option (aka a statutory stock option) (an \u201cISO\u201d) or a Nonqualified Stock Option (aka a Nonstatutory Stock Option) (an \u201cNQO\u201d)?"},"content":{"rendered":"

Many of our clients often ask: Which is better: an Incentive Stock Option (aka a statutory stock option) (an \u201cISO\u201d) or a Nonqualified Stock Option (aka a Nonstatutory Stock Option) (an \u201cNQO\u201d)?\u00a0 What are the differences between ISOs and NQOs?<\/p>\n

The table below summarizes the primary differences:<\/p>\n\n\n\n\n\n\n\n\n\n\n\n\n\n
Issue<\/em><\/strong><\/td>\nISO<\/td>\nNQO<\/td>\n<\/tr>\n
Eligibility Limitations:<\/td>\nOnly employees (so, a non-employee member of the board of directors can\u2019t receive an ISO).<\/td>\nEmployees and independent contractors are both eligible.<\/td>\n<\/tr>\n
Options taxable upon receipt?<\/td>\nNo \u2013 as long as priced at FMV at grant.<\/td>\nNo \u2013 as long as priced at FMV at grant.<\/td>\n<\/tr>\n
Options taxable upon vesting?<\/td>\nNo \u2013 as long as priced at FMV at grant.<\/td>\nNo \u2013 as long as priced at FMV at grant.<\/td>\n<\/tr>\n
Option taxable upon exercise?<\/td>\nNot for ordinary income tax purposes; but spread is taxable for alternative minimum tax purposes (\u201cAMT\u201d). Exercise NOT subject to employment tax withholding.<\/td>\nYes for ordinary income tax purposes, and is subject to income and employment tax withholding. No AMT consequences.<\/td>\n<\/tr>\n
Employment tax on exercise?<\/td>\nNo<\/td>\nYes<\/td>\n<\/tr>\n
Annual limitation?<\/td>\nYes; only up to $100,000 in stock underlying ISOs can become exercisable in any calendar year.<\/td>\nNo<\/td>\n<\/tr>\n
Special rule for greater than 10% shareholders?<\/td>\nYes; options to greater than 10% shareholders must be priced at least 110% of FMV and not be exercisable after the expiration of 5 years from the date of grant.<\/td>\nNo<\/td>\n<\/tr>\n
Alternative Minimum Tax Applicable?<\/td>\nYes, on the spread on exercise.<\/td>\nNo<\/td>\n<\/tr>\n
Character of income on sale of stock?<\/td>\nLong-term capital gain,\u00a0IF<\/em><\/strong>\u00a0the two holdings periods are met. You have to have held the stock for 1 year after exercise, and for at least 2 years after the grant of the option. If you don\u2019t meet these two holding periods, then the income is a mix of ordinary and long-term or short-term capital gain, depending on the spread at the time of exercise and appreciation (if any) and length of time between exercise and sale.<\/td>\nEither long term or short term capital gain, depending on how long the stock was held after exercise.<\/td>\n<\/tr>\n
Spread on Exercise Deductible to the company?<\/td>\nNo<\/td>\nYes<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n

Conclusion: \u00a0<\/strong>NQOs are recommended over ISOs for many reasons:<\/p>\n

    \n
  1. ISOs are more complex and difficult to understand for a variety of reasons, including (a)\u00a0the two holding periods, (b)\u00a0the annual limitation, (c)\u00a0the eligibility restriction, (d)\u00a0the greater than 10% shareholder rule, (e) complexities associated with disqualifying dispositions,\u00a0but<\/u>\u00a0most significantly because of the AMT consequences on exercise when there is a spread.<\/li>\n
  2. It is easier for companies to simply have one type of award to explain to their service providers \u2013 NQOs.<\/li>\n
  3. Most employees don\u2019t meet the holding period requirements of ISOs in any event \u2013 because they wait to exercise until there is a liquidity event \u2013 so the primary benefit of ISOs \u2013 capital gain on sale of the stock \u2013 is not obtained.<\/li>\n
  4. NQOs are more transparent than ISOs because the tax withholding on exercise is more easily calculated.<\/li>\n
  5. The spread on the exercise of NQOs is deductible as compensation to the employer.<\/li>\n<\/ol>\n","protected":false},"excerpt":{"rendered":"

    Many of our clients often ask: Which is better: an Incentive Stock Option (aka a statutory stock option) (an \u201cISO\u201d) or a Nonqualified Stock Option (aka a Nonstatutory Stock Option) (an \u201cNQO\u201d)?\u00a0 What are the differences between ISOs and NQOs? The table below summarizes the primary differences: Issue ISO NQO Eligibility Limitations: Only employees (so, […]<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_daextam_enable_autolinks":"","_monsterinsights_skip_tracking":false,"_monsterinsights_sitenote_active":false,"_monsterinsights_sitenote_note":"","_monsterinsights_sitenote_category":0,"footnotes":""},"categories":[1],"tags":[],"class_list":["post-1509","post","type-post","status-publish","format-standard","hentry","category-planning-for-tax-minimization"],"_links":{"self":[{"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/posts\/1509","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/comments?post=1509"}],"version-history":[{"count":2,"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/posts\/1509\/revisions"}],"predecessor-version":[{"id":1511,"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/posts\/1509\/revisions\/1511"}],"wp:attachment":[{"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/media?parent=1509"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/categories?post=1509"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/patellawoffices.com\/blog\/wp-json\/wp\/v2\/tags?post=1509"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}