editione2.1.1
Updated September 12, 2022Because the differences are so nuanced, what follows is a summary of the taxes on restricted stock awards, ISOs, and NSOs, from an employee’s point of view.
Restricted stock awards. Assuming vesting, you pay full taxes early with the 83(b) or at vesting:
At grant:
if 83(b) election filed, ordinary tax on FMV
none otherwise
At vesting:
none if 83(b) election filed
ordinary tax on FMV of vested portion otherwise
At sale:
long-term capital gains tax on gain if held for 1 year past when taken into income
ordinary tax otherwise (including immediate sale)
NSOs. You pay full taxes at exercise, and the sale is like any investment gain:
At grant and vesting:
At exercise:
ordinary income tax on the amount by which the FMV of the shares received exceeds the exercise price
income and employment tax withholding on paycheck
At sale:
long-term capital gains tax on gain if held for 1 year past exercise
short-term capital gains tax (ordinary income tax rates) otherwise (this includes immediate sale at exercise)
ISOs. You might pay less tax at exercise, but it’s complicated:
At grant and vesting:
At exercise:
AMT tax event on the bargain element
no ordinary or capital gains tax
no income or employment tax withholding on paycheck
At sale:
long-term capital gains tax if held for 1 year past exercise and 2 years past grant date
short-term capital gains tax (ordinary income tax rates) otherwise (this includes immediate sale at exercise)
Mary Russell, a lawyer who specializes in equity compensation, recommends each form of equity be used at the appropriate time in private companies: restricted stock awards for the earliest stage of a startup, stock options with longer exercise windows for the early to mid stage, and RSUs for the later stages.*
If you relish tax complexity, you can learn more from:
The Tax Topics coverage of ISOs and NSOs from the IRS
Joe Wallin’s posts on the Startup Law Blog, “Top 6 Reasons To Grant NQOs Over ISOs” and “Incentive Stock Options vs. Nonqualified Stock Options”
Investopedia’s post “Get the Most Out of Employee Stock Options”
EquityZen’s summary of the topic, “Understanding Equity Compensation And What It Means For Startup Employees”
If you are awarded RSUs, each unit represents one share of stock that you will be given when the units vest.
Here’s the tax summary for RSUs:
At grant:
At vesting/delivery:
At sale:
long-term capital gains tax on gain if held for 1 year past vesting
short-term capital gains tax (ordinary income tax rates) otherwise (this includes immediate sale)