Qualified and Nonqualified Stock Options
by
Gregory Grant
From dot coms to blue chip companies, stock options give employees the chance to purchase their company stock at a special price. For some employees, stock options are a big part of the compensation package.
There are two types of options - qualified and non-qualified. Non-qualified stock options are always taxed as ordinary income-as high as 36%. But qualified options, if managed properly, are taxed as long-term capital gains-only about 20%. But you must buy and sell the stock within a 2-year period.
"The main advantage of a qualified option is when you receive the grant of the option, and when you exercise it, there isn't a taxable event," said James Cotto of Merrill Lynch. "The taxable event occurs upon selling the stock and that is taxed as a capital gain. So the main advantage is if you hold your option for two-year period or exercise your option after one year and then sell the stock in a year, it is viewed as a long term capital gain."
The difference between the types of options-qualified and nonqualified is how each is issued.
"Non-qualified options are not issued under the internal revenue service code," Cotto said. "So, when they are exercised they come out in a taxable event automatically, in the year in which you exercise them, and they are taxed as ordinary income."
But if you're a new employee-looking to construct a compensation package, it may be a good idea to ask if the company offers qualified stock options. The potential tax advantage could be well worth it in the long run.
In recent years, companies have flocked to the web to set up dot.com sites. Initially retail companies caught the attention of investors and consumers alike.
When to sell a stock is as important as when to buy a stock. The investor that goes beyond just looking at the financial pages will find that this kind of in-depth research will pay off in helping to make wiser investment choices.