Author Topic: Sell or hold ESPP  (Read 1063 times)

Invester17

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Sell or hold ESPP
« on: August 10, 2017, 07:55:19 AM »
Hello,

My employer has a ESPP that I'm taking advantage of (10% after tax, per pay period, for 6 months).

I paid in a total of $16,267,06 and now it stands at $22,892.88.

I consider the stock to be stable and likely to even grow over time. However, I don't want to risk it anymore than necessary given this is my primary employer. I'm trying to determine what kind of taxes I would pay now vs. what taxes I would pay if I sold it later (it qualifies on July 2018). I'm in the 33% tax bracket this year.

I would likely use this money on my rental property to pay down the principal to remove PMI (a return of 2,618) or $187 a month.

Thanks

alexpkeaton

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Re: Sell or hold ESPP
« Reply #1 on: August 10, 2017, 08:53:26 AM »
I think the general consensus is to sell immediately, pocket the gain, and don't worry about the taxes. You've made money so count it as a win, but don't get greedy and concentrate your risk with your employer.

That said, if it's not a huge part of your net worth, and you're otherwise not worried about your job and employer, I'd probably just keep it.

I'll have this issue myself after open enrollment for next year at my new employer. The ESPP discount is only 5%, and there's no look-back, so it's not even a great ESPP plan. But I have a hard time saying no to free money even if it's not a huge amount. It's further complicated by the fact that my employer is an investment bank, so I'm subject to trading blackouts and a 30-day holding policy for any security. So even if I wanted to sell shares immediately I won't be able to.

MDM

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Re: Sell or hold ESPP
« Reply #2 on: August 10, 2017, 09:15:28 AM »
I'm trying to determine what kind of taxes I would pay now vs. what taxes I would pay if I sold it later (it qualifies on July 2018). I'm in the 33% tax bracket this year.
Do you have TurboTax or similar from doing your 2016 taxes?  If so, a copy of that file (to the extent that, other than the ESPP, 2017 and 2018 will be similar to 2016) with fudged ESPP acquisition and sale dates and prices should be illuminating.

Invester17

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Re: Sell or hold ESPP
« Reply #3 on: August 10, 2017, 09:19:37 AM »
I definitely have read online that it's better the sell immediately. However, I'm not sure of the tax implications. If I put in $16,000 and made $6,000 but then have to pay back $6,000 and taxes - what's the point?

My networth is currently 400k (23k is the ESPP) so I don't consider it a too much.

MDM

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Re: Sell or hold ESPP
« Reply #4 on: August 10, 2017, 09:25:47 AM »
If I put in $16,000 and made $6,000 but then have to pay back $6,000 and taxes - what's the point?
If that were the way it works, there would be no point.

Fortunately it doesn't work that way.  Just as with any other income, one pays some fraction of the income in taxes.  The exact fraction depends on the amount of this and other income, and the type (e.g., ordinary or long term capital gain) of income.

Invester17

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Re: Sell or hold ESPP
« Reply #5 on: August 10, 2017, 10:35:26 AM »
These would all be ordinary (short term) gains.

MDM

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Re: Sell or hold ESPP
« Reply #6 on: August 10, 2017, 10:57:20 AM »
These would all be ordinary (short term) gains.
Then if your marginal rate is 30% you would have $4200 after tax (assuming the $6000 profit mentioned previously).

If it takes ~an hour to sign up, sell when eligible, and enter on your tax return, that seems a decent hourly rate.

shuffler

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Re: Sell or hold ESPP
« Reply #7 on: August 10, 2017, 12:55:04 PM »
These would all be ordinary (short term) gains.
I assume you receive a discount on your purchase-price?

If so, then the discount will always be taxed at your ordinary rate.  I mean this in the sense that short-term/long-term doesn't matter.  The discount is just always going to be taxed at the ordinary rate.

So when you consider holding the stock for longer to qualify for long-term rates, be aware that the discount will continue to be taxed at ordinary rates, and that long-term rates will only apply to the appreciation (not the discount).

This is why I sell my ESPP immediately.  We get a 10% discount off of the price at the end of the holding period.  If I sell immediately, there is (practically) no appreciation/depreciation.  I just pay ordinary rates on that 10% discount income.  Holding the stock longer wouldn't change that.

Here's a post of mine from a couple weeks ago with a couple external links.

seattlecyclone

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Re: Sell or hold ESPP
« Reply #8 on: August 10, 2017, 01:18:26 PM »
The tax treatment for ESPP shares is spelled out in this IRS doc.

The holding period for favorable tax treatment lasts two years after you received the option to purchase the stock. In the case of a pretty typical ESPP with two annual periods, where you buy at the end of the six-month period based on the price at the beginning of that period, that means you need to hold for 18 months after you actually buy the stock.

What's the difference between meeting the holding period or not?

If you meet the holding period, you need to count any discount off the fair market value as of the option grant date as regular income. Any gain above and beyond that counts as a capital gain.
If you don't meet the holding period, you need to count any discount off the fair market value as of the stock purchase date as regular income. Any gain above and beyond that counts as a capital gain.

Note that meeting the holding period also means the capital gain portion will be long-term instead of short-term.

There are four different prices that matter for this calculation:
A = fair market price at the beginning of the offering period
B = fair market price at the end of the offering period
C = actual price you paid for the shares
D = actual price you received for the shares when you sold them

If you meet the holding period, (A-C) counts as regular income and (D-A) counts as capital gains.
If you didn't meet the holding period (B-C) counts as regular income and (D-B) counts as capital gains.
This all assumes the stock is on an upward trajectory. If any of these quantities are negative, something different happens as explained in the linked doc.

There are two dates here where the tax due on selling the shares would change. 12 months after you buy the shares, the (D-A) gain switches from short-term to long-term. Then at the end of the holding period, (B-A) of your regular income switches to a long-term gain.

Note that if you sell right away, the capital gain (D-A) will be close to zero, so let's ignore the 12-month date. The only reason you might possibly want to hold the shares for tax reasons is if you're going to hold for the full holding period to switch (B-A) from regular income to a long-term gain.

Obviously, the larger (B-A) is, the more valuable it will be to hold for the full period. However doing this means keeping some fraction of your net worth invested in the same company that signs your paychecks, which is commonly thought to be a risky proposition. You'll have to decide for yourself whether the potential tax savings is a fair compensation for that risk. My opinion is that it generally isn't. You've realized most of the special benefit of the ESPP on the day you buy the shares in the form of getting a sizable discount on the original purchase. Getting to pay slightly less tax on that discount is a much smaller benefit in comparison.

Also you should be aware that when you do sell the shares, the 1099 your brokerage sends you will be wrong and you will need to correct your basis accordingly on your 1040 Schedule D.
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Done by Forty

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Re: Sell or hold ESPP
« Reply #9 on: August 10, 2017, 10:40:29 PM »
I wrote about this years ago, and one of the commenters put it in a good framework:

How much would you have to be paid to change your AA?

When put like that, it nudged me to sell immediately because the taxes weren't nearly enough for me to mess with something as important as my AA.

Invester17

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Re: Sell or hold ESPP
« Reply #10 on: August 11, 2017, 06:36:42 AM »
I wish I understood the tax implications more, but it sounds as if the net of it is - sell it. Pay the taxes and take your immediate gain.

MDM

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Re: Sell or hold ESPP
« Reply #11 on: August 11, 2017, 06:54:16 AM »
I wish I understood the tax implications more....
Might be worth doing a dummy return using whatever you used for last year.  The case study spreadsheet also shows details for tax calculations.