What is section 83(B)? When should, and shouldn’t, you file for it?
What is section 83(b)?
Section 83(b) is, put simply, a notification you provide to the IRS that you ask to be taxed on your shares, usually restricted stocks, on date of grants, rather than on date the equity is vested. You have 30 days to notify the IRS from the moment you are granted the stock.
When should you file for 83(b)?
The simplest answer is that you should file for 83(b) when you expect the value of the stock to rise and the stocks have low value on date of filing 83(b). This means you will pay sooner for the income equivalent of your stocks as valued at the time of the grant (assuming you paid nothing for them), and will pay capital gains tax on however much they have risen at the time of sale, assuming that over a year has passed since the time of the grant.
Why does this matter?
Because in most cases where you gain restricted stock, your ordinary income tax bracket will be considerably higher than your capital gains tax. Whereas the highest ordinary income tax bracket is 39.6%, the maximum long-term capital gains rate is only 20%. Therefore, your goal is to ensure that as much as possible as the rise in the value of the restricted share is taxed based on the capital gains rate, instead of the ordinary income tax rate – assuming, of course, that your income tax bracket is above 20%.
What other advantages do I derive from filing an 83 (b)?
Greater flexibility in determining when to sell the stock. In addition to reducing the amount taxed according to the regular income tax rate, filing a 83(b) gives you more flexibility in selling off your stock. Remember, you need to sell it at least a year after either filing a 83(b) or the stock being vested. If it looks like the value of the stock is about to plunge after less than a year and you need to scramble to sell it, then you will have to pay according to the income tax rate, not the long-term capital gains rate.
When should you not file for an 83(b)?
There are two basic reasons not to file for an 83(b). The first is lack of ready cash to pay for the income equivalent of the stock at the time of the grant. The second is if the future value of the stock seems uncertain. If the stock takes a plunge, particularly if it does so before your stock vests, you would be better off not to file the 83(b).
So what should I do?
The right answer, as in most financial dilemmas is to consult with your CPA or CFO. If this is not an option, or they do not have the expertise needed to help you out in your financial planning, then you should seriously consider securing outsourced financial services.