Stock Options Tax Treatment

A stock option is a binding agreement between two investors that has an expiration date. The investor purchasing the option has the right to buy or sell an asset for a particular price before the expiration date but is not required to do so. The seller accepts this obligation to sell or buy if the buyer takes the action on or prior to the expiration date. In addition to understanding what stock options are, it helps also to know more about stock options tax treatment. The first piece of information you should know is that stock options and stocks are capital assets and therefore profits are taxed.

If a stock or a stock option is held for one year or less, regular tax rates will apply. However stock options tax treatment for options held for one year or more gives the holder tax savings because the profit earned is taxed at a rate called the long-term capital gains rate. All options other than LEAPS can be held for a maximum of 9 months. So, you will be subject to regular taxation. There are certain rules that apply to different types of options.

For long options, the gain is based on how long you held the option. If you sold the stock thus exercising your option, tax cost simply reduces your gain. As previously mentioned, the only stock options that can be treated as long term are LEAPS and they would have to be held for a minimum of one year. If an option is expires with no worth or is closed, the gain is taxed separately. In this situation, the gain is defined as the amount at which the call was sold.

In the case of the short option, the option transaction is part of the stock transaction. This means the premium is added to the received strike price minus trading expenses. The entire transaction is considered short term if held for a year or less, and long term if held for a year or more. In basic terms, the IRS looks for stock options holders to have some risk before they can claim gains on long term options, and the rules of taxation on covered calls are there to enforce this investment taxation philosophy.

Because stock options tax treatment rules can be complicated for the average investor to understand, speak to your tax advisor or broker about this subject for more information. They can not only advise you on taxes but also on stocks and stock options. The investment world is one in which lots of money can be made or lost so it’s important to have professional expertise on your side.

Comments are closed.