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The Tax Prophet Newsletter   Issue # 43 November, 2006

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In This Issue:
Introduction
Answer
IRS Ruling
Conclusion


Taxation of Stock Options Transferred Pursuant to Divorce

Introduction

Assume Husband holds employee stock options, and, pursuant to a divorce property settlement agreement, exercises them on behalf of his wife, and transfers the proceeds, net of withholding taxes, to the wife. Husband receives a W-2 for the income received from the stock exercise.

Who is taxable on the income?

Answer

The wife, according to IRS Letter Ruling 200646003 (August 7, 2006), although she is entitled to a credit for taxes withheld from the sale and reported on husband's W-2, but not for FICA tax withheld.


IRS Ruling

In IRS Letter Ruling 200646003, husband and wife, who lived in a community property state, executed a property settlement agreement which provided for wife to receive a portion of husband's vested nonstatutory stock options granted to him by his employer.

IRS ruled that the income attributable to the exercise of options was includable in wife's gross income for federal tax purposes, and wife was entitled to a credit for income tax withheld from the proceeds derived from the exercise of the options, but not for FICA tax withheld.


Conclusion

Divorce attorneys negotiating property settlements should be aware of the tax consequences when unexercised employee stock options are transferred.

Even though the transfer is non-taxable under the divorce settlement rules, once the options are exercised, the person who receives the income will be taxable, whether or not the company issues a W-2 to the employee.



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All contents copyright 2006 Robert L. Sommers, attorney-at-law. All rights reserved. This newsletter provides information of a general nature for educational purposes only and is not intended to be legal or tax advice. This information has not been updated to reflect subsequent changes in the law, if any. Your particular facts and circumstances, and changes in the law, must be considered when applying U.S. tax law. You should always consult with a competent tax professional licensed in your state with respect to your particular situation. The Tax Prophet is a registered trademark of Robert L. Sommers.