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The Treatment of Equity
Awards Upon Termination
September 26, 2014
© 2013 Equity Administration Solutions, Inc. All rights reserved.
Today’s Discussion
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 Death
• Beneficiary designations, exercise periods, accounting and
tax issues
 Leaves of Absence
• Types of leave, best practices, tax consequences , ESPP
considerations
 Divorce
• Tax issues, asset distributions
 Terminations
• Global plan issues, tax considerations
© 2013 Equity Administration Solutions, Inc. All rights reserved.
Today’s Discussion
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 Retirement
• 409A, Tax issues, 162(m)
 Overall Process and System Considerations
 Best Practices
© 2013 Equity Administration Solutions, Inc. All rights reserved.
Death Beneficiary
 Issues
• Problems with beneficiary designation forms
• Enforceability outside the US
• Employees failing to update their beneficiary designation
• Overriding state law
• Community property law, simultaneous death rule, killer statute
• Specifying beneficiaries in the plan document
• Requires interpretation by plan administrator
• Does “children” include adopted children and step children?
• Meaning of “spouse” after U.S. v. Windsor
 Considerations
• Automatic transfer to the estate
• State in plan document that upon death options would be exercisable by
representative of the estate
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Exercise Period After Death
 Considerations
• Allow time for probate process
• 12-month exercise period after death is most common
• 51% of companies according to 2010 NASPP domestic survey
• Consider Section 409A limit when extending exercise period
• Extending in-the-money option beyond original term or 10 years after grant
date may cause Section 409A to apply to option
• Modification
• If change in terms, then Type I modification
•
Calculate incremental expense for outstanding shares
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Vesting Acceleration
 Performance awards
• Common provision for vesting upon death
• Pro rata vesting based on portion of period completed
• Payout at the end of performance period based on actual performance
• 28% of companies according to 2010 NASPP survey
• Payout upon death based on an assumed performance level, or
• 16% of companies according to 2010 NASPP survey
• Modification
• If change in terms, then Type III (Improbable to Probable)
•
Calculate change in value for the accelerated shares only
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Accounting Treatment
 Vesting or forfeiture upon death
• Impact on expense and estimated forfeiture
• Forfeiture upon death
•
Reverse expense
• Cancellation at end of performance period
•
Nonattainment of performance condition – reverse expense
•
Nonattainment of market condition – expense is not reversed
• Accelerated or pro rata vesting upon death
•
Vesting per original grant terms – fair value is not remeasured
•
Vesting due to modification – Type III
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Tax Consequences
 NQSO Exercise By Estate
• Estate recognizes ordinary income equal to spread at exercise
•
Report gain on estate’s Form 1099-MISC (Box 3, not 7)
• Tax withholding and reporting
•
Not required if exercise occurs after the year of employee’s death
•
If exercised in the year of employee’s death, only FICA is withheld
•
Apply FICA wage cap using employee’s wages
•
Report FICA/FUTA wages on employee's Form W-2
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Tax Consequences
 Transfer of ISO or ISO shares to estate
• Transfer of option to estate
•
Does not disqualify ISO. Holding periods no longer applicable.
•
No tax withholding or reporting by company at exercise by estate
•
Gain upon sale by estate is capital gain
•
Stepped up basis = exercise price + fair value of ISO at employee’s death
• Transfer of ISO shares to estate
•
Holding periods no longer applicable
•
Gain upon sale by estate is capital gain
•
Stepped up basis = exercise price + FMV of shares at employee’s death
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Tax Consequences
 Transfer of ESPP shares upon death
• Transfer of ESPP shares upon death is a qualifying disposition
• Ordinary income
• Lesser of discount at grant or spread at employee’s death
• Reported on employee’s final Form W-2
• Basis in shares for sale by estate is FMV of shares at employee’ death
 Right to participate in ESPP ends upon death
• Unused contributions are refunded to estate
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Leaves of Absence
 Types of Leave
• Protected vs. Discretionary Leaves
• Paid vs. Unpaid Leaves
 Effects on Equity Compensation
• Vesting
•
Continued vesting, suspension, or cancellation
•
Grace period
• Exercisability and Share Release
• Continued Participation in ESPP
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Leaves of Absence for Global Plans
 Differences globally
• Protected leaves
• Claims of indirect discrimination
• Paid vs. unpaid leaves
• Definition of disability
 Best Practices
• If feasible, allow vesting to continue
•
More than 85% of companies (2010 NASPP domestic survey)
• If suspend vesting, specify in grant agreement
• Maintain equity-related LOA policy at US parent level
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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U.S. Tax Consequences
 ISO
• Extended leaves
• No impact if employee has guaranteed right to return to work
• No impact on ISO if leave is not longer than 3 months
• If both of the above do not apply
• Termination due to disability
• Plan may allow exercise up to one year after disability termination
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Divorce – Tax Consequences
 NQSO
• Transfer of NQSO pursuant to divorce is not a taxable event
• Ex-spouse recognizes ordinary income upon exercise
•
Report income and FIT withholding on Form 1099-MISC of ex-spouse
•
Box 3, not box 7
• Income tax and FICA must be withheld
•
FICA is based on employee’s income, attributed to employee, and reported on
employee’s Form W-2 (but paid by ex-spouse)
• Report FICA/FUTA wages on employee’s Form W-2
•
Boxes 3 and 5 only, do not report in Box 1
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Divorce – Tax Consequences
 ISO
• Transfer of Option
• Transfer of ISO disqualifies the option from ISO treatment
• PLR 200737009, 9/14/07
• Community property state – portion of ISO owned by spouse
• Employee agrees to exercise ex-spouse’s ISO in the future if instructed
• Neither the division of ISO nor transfer of shares to ex-spouse will disqualify the
ISO
• Transfer of Shares
• Transfer of ISO shares does not disqualify shares
• Statutory holding periods still apply
• Report any ordinary income upon sale on Form 1099-MISC of ex-spouse
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Divorce – Tax Consequences
 Restricted Stock
• Transfer of RSA pursuant to divorce
• PLR 201016031, 4/23/10
*
• Non-community property state
• Divorce decree that employee transfers the shares upon vesting
• Shares remain in the name of the employee until vest
• Ex-spouse recognizes ordinary income upon vesting
• Tax withholding & reporting at vest similar to NQSO exercise
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Termination of Employment in General
 Issues for Global Plans
• Forfeiture on termination
•
Right to retain and continue to vest in award
•
Termination date (notice period, garden leave)
• Continued vesting after qualified termination (e.g., retirement)
•
Age discrimination issues
•
Acceleration of taxable event
• Impact on Severance Pay
•
May need to include value of award
•
Mitigate by separating equity awards and employment relationship
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Tax Issues
 Grant agreements with retirement acceleration provision
• RSA
• Income tax and FICA/FUTA at retirement eligible date
• RSU
• FICA/FUTA at retirement eligible date
• FICA withholding
• FICA reporting: Form W-2, Boxes 3, 5 and 11
• Income tax at release date
• In no event can FICA/FUTA be later than income tax
• Example: Employee eligible for retirement on 12/1/13. Shares released on
1/15/14. FICA/FUTA using short-term deferral rule would be based on FMV at
1/15/14.
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Section 409A
 RSU with retirement acceleration provision
• Section 409A not applicable to RSUs if payable upon vesting
•
Common mistakes in design
•
Vesting upon retirement
•
Vesting upon termination for non-compliant “good reason”
• If Section 409A applies (and for Phantom Stock)
•
Releases/payout must be tied to pre-established dates or a permissible event,
including “separation from service”, death and disability
• One release schedule for each permissible event
• Erroneous determinations of “separations from service” may result in
Section 409A violations
• Must comply with short-term deferral rule
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Tax Issues
 PSU with retirement acceleration provision
• FICA/FUTA accelerated at retirement eligible date only if payout is
reasonably ascertainable
•
No FICA/FUTA if the award does not guarantee a minimum payout
•
Awards with accelerated/continued vesting on retirement and minimum payouts
should be closely examined to minimize unforeseen tax consequences
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Termination of Employment in General
 PSU with retirement acceleration provision
• Rev. Rul. 2008-13
• If the plan or an agreement provides for vesting upon retirement,
• Exemption for performance-based compensation is not available, even if the
accelerated vesting is never triggered
• Best Practice
• If performance-based RSU vests upon retirement
• Limit payment to pro rata amount that would otherwise be payable on achievement
of performance goals
• Delay release until end of performance period
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Process and System Considerations
• Data capture
• Administration – change in employment status date, termination reason, retirement
eligible date, breaks in service (rehires), etc.
• Accounting – accounting dates, post-termination substantive services
• Processing changes in employment status
• Effects on administration – vesting, exercise period, eligibility for plan
• Effects on taxation – withholding, reporting, timing, ISO status
• Flagging/relabeling administrative data for accounting purposes
• Vesting – due to modification vs. “qualified termination” trigger
• Cancellation – due to service condition vs. market condition
• Effects on accounting – expense acceleration, types of modification
• Documentation
• Identify system limitations & document manual processes
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Best Practices
• Update employee data from HR system on periodic basis
• Reconcile changes of employment status between the systems
• Perform on monthly basis and before any major stock event
• Include effective date of change of status in reconciliation
• Develop and document process
• Transferring awards upon death & divorce
•
•
How to handle late notifications of change in status
•
•
Required documentation; notice to broker; SEC compliance
Post-dated transactions report; notice to Finance
Action upon discovery of inappropriate releases and exercises
•
Notice to Legal
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Q & A Discussion
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
Vince Alessi, CEP

Nicole Dmitruchina, CEP

Manager, Private Markets

Consultant, Professional Services

+1-925-475-4398

+1-925-730-4229

Vince.alessi@easiadmin.com

nicole.dmitruchina@easiadmin.com

Equity Administration Solutions, Inc.

Equity Administration Solutions, Inc.

Compliance with Confidence

Compliance with Confidence

www.easiadmin.com

www.easiadmin.com
© 2013 Equity Administration Solutions, Inc. All rights reserved.
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Thank You!
Questions?
© 2013 Equity Administration Solutions, Inc. All rights reserved.