Should You Take an 83(b) (Restricted Stock) Election?
Well, maybe; it depends. Sorry for the equivocation. On the other hand, there is a pretty straightforward two-question test that any new employee being offered restricted stock should take. First, ask “What is the growth potential of my new company?” If the answer comes back strongly positive, the next question is “What’s my future with and commitment to my new company?” If the answer again is a strong “yes,” then taking the 83(b) election can make sense…even good sense from a tax savings point of view.
This post will not present the assumptions or provide the formulae required to determine your tax savings over a vesting period – that’s an exercise for you and your tax advisor. Suffice to say that your options are to take the 83(b) election and make an upfront ordinary income tax payment on the present day value of the stock but then pay only capital gains tax on the (assumed) increase in stock value as you vest; or to decline the election and pay higher ordinary income tax rates on your gains each time you vest. Doing the calculations based on reasonable growth in stock value along with the difference between ordinary and capital gains tax rates (even counting the cost of money over time) can lead to the conclusion that the election is worth a significant savings in tax over time.
The point is that even though many employers offer new employees restricted stock, most employees don’t take the time to understand the 83(b) election options, or shy away from the upfront tax payment. Experience shows that new employees (who don’t even have to be highly compensated senior executives) joining well-run, profitable companies should consider taking the election; and even consider borrowing or selling some shares from previous grants to cover the initial tax payment. It is also true that employees at pre-IPO companies should “do the math” and factor in the benefits of an 83(b) election when they anticipate the likelihood of their company experiencing a rapid stock value gain at the time it goes public.
So, you see, it depends. The IRS has made the 83(b) election possible – saying in effect, “pay me 35% now and when you do well over time I’ll only ask for 15% on the appreciation later.” It comes down to how you view your new company’s prospects for growth and your commitment to its future.
Want more 83(b) Election informaton? Article: Revoking a Section 83(b) Election