Purchasing company stock can be a good deal. Here are some things you should know:
1. An employee stock purchase plan or ESPP is a valuable benefit offered by some publicly and privately traded companies. It allows employees like you to purchase company shares at a discount, often at 5%–15% less than the fair market value.
2. There is a typical enrollment period – usually twice per year. Your company will use payroll deductions to fund your ESPP account.
3. Most plans have eligibility requirements. Usually, these requirements are based on the amount of time you have worked for your company.
4. An ESPP is an especially good benefit if it includes a lookback provision. This means the ESPP can “look back” when buying your shares and discount your purchase price to the lower of either the offering date or the purchase date share price. This can boost your benefit in two ways:
- If the share price moves up during the purchase period, it magnifies the gains.
- If the share price moves down during the purchase period, your optimal discount remains guaranteed.
5. The IRS has a cap of $25,000 in purchases per calendar year. For example: With an ESPP that provides a 10% discount, the most you can purchase each calendar year is $22,500.
So far, this all sounds pretty great, but what about taxes?
The good news is, you only incur taxes when you sell ESPP shares, not when you purchase them. The not-so-good news is that ESPP tax planning is complicated by “qualifying” vs. “disqualifying” dispositions:
- Selling ESPP shares right away is a disqualifying disposition. In a disqualifying disposition, any gains in the shares are taxed at (typically higher) ordinary income tax rates.
- ESPP shares are eligible for preferential tax treatment under a “qualifying disposition.” To make a qualifying disposition, shares must be held for at least two years after the offering date, and at least one year after the purchase date.
ESPPs can be a great way to build wealth and more quickly achieve your personal financial goals. This might mean supplementing your cash flow, saving for near-term goals, or investing toward long-term goals. Build your company stock investment plan based on your particular circumstances and revisit it regularly to ensure you remain on track.
And if you’re ready to take the next step and work with a financial planner, you can learn more about how we work with clients right here.