At the beginning of the year, I started participating in my company’s newly-offered employee stock purchase plan, which gives us the opportunity to automatically deduct up to 10% of our paychecks and defer that money for use at the end of the quarter. At that time, we are able to purchase stock at a 15% discount off the lower of either the price at the beginning or the price at the end of the quarter.
The quarter ended over a month ago, but I was restricted from selling stock until a few days ago. The transaction settled today, and I got a decent price on the stock, but definitely not the highest of the day I executed the trade.
Nevertheless, with the discount, I was able to buy the shares at around $70 and the selling price was over $100. Even though E-Trade charges a $19.95 commission for selling these shares, and the SEC felt the need to charge me an additional $0.03, I feel it is a worthwhile short term investment.
As far as the tax implications go, E-Trade has a detailed ESPP tax guide [pdf] that explains things more succinctly than I’ve seen anywhere else. Since I haven’t been enrolled in the ESPP program for two years before selling and I haven’t held onto the stock for a year, I’ll have to pay a portion of my gain as ordinary income (the difference in the discounted stock price and the market price at the time of purchase) and short-term capital gains (the difference between the market price at the time of purchase and the price I paid to sell).
Thankfully, the guide I linked to has a step by step procedure for using the information reported on W2s and 1099s to report the taxes correctly to the IRS.
I have a few reasons for not holding ESPP shares longer to take advantage of long-term capital gains rates. First of all, I’m already invested in my company’s stock through my 401(k), and while I believe the 20-year prospects for my company are very good, I don’t want to overload on one specific company. My salary is also tied into my company’s performance, so I’d like to limit all-around risk.
I also don’t believe the 15% tax rate for long-term gains will be around forever, but that’s just a hunch.
Updated June 8, 2008 and originally published May 10, 2007. If you enjoyed this article, subscribe to the RSS feed or receive daily emails. Follow @flexo on Twitter and visit our Facebook page for more updates.