AMT and Equity Compensation
Alternative minimum tax, nonqualified stock options, incentive stock options and other forms of equity compensation.
NQO Options Exercise: Disputing Wrong FMV
Posted by: qquartz, April 19, 2018 01:23PM
I have some stock options for a private company I used to work at.

I have found a buyer who is interested in buying shares from me (after exercise), but I have the following problem.

The numbers:

My strike: $10/share
Sale price: $20/share
Company's declared "FMV": $35/share

So even though the buyer is going to buy the stock the same day I exercise, the company will report W2 income of $25/share due to exercising NQOs... and then I'd have $15 of cap losses that I wouldn't be able to fully deplete for the next 20 years due to $3k/year limitation.

Given a 50% income tax bracket, I actually lose money on this transaction.

This doesn't seem reasonable at all so I'm wondering if there's a solution.

What to do:

Is it possible to report the W-2 given by the company as incorrect? The bargain element of $25 seems completely unreasonable in this situation. Normally the approach is to take ordinary income to FMV and then a cap loss down to sale price, but that generates too much cap loss in my case.

There are many reasons why the company's Fair Market Value is priced completely incorrectly (this is a large private company with many private transactions, and none of them occur anywhere near the "Fair Market Value". The Fair Market Value is a 409A valuation and hasn't been updated in many years, so it's definitely out of date...).

How likely is this to pass IRS scrutiny? Requesting a corrected W-2 and if refused using a 4852. I believe this will trigger a lot of questions about why my FMV is better than the company's (it's an arm's length transaction in a secondary market the same day as exercise... compared to an out of date 409A valuation, so I do truly believe it is more accurate).

The amounts in question are large enough that the IRS would pay attention (5 figures in tax liability) but only a small amount of my overall tax liability.

Re: NQO Options Exercise: Disputing Wrong FMV
Posted by: Art, April 19, 2018 03:35PM
If I understand, you wish to correct your Box 1 W-2 amount?

That should be done on an 8275 and IRS does look a those, for good reason.

You would have to be far more convincing than the argument presented here.

Re: NQO Options Exercise: Disputing Wrong FMV
Posted by: qquartz, April 19, 2018 04:20PM
Thanks for your comment. Yes, I'd be trying to correct the amount in box 1/12 for the W-2.

Certainly the company and I have opposite incentives in the reported FMV... what would be the burden of showing an inflated one? A 409A valuation X years out of date?

Or if that's not on the table, is there any other way to avoid the large ordinary income + large cap loss event that would occur in this situation? Right now the transaction is positive before tax and strongly negative after tax, which I can't imagine is in the IRS's interest (or mine), since I would just not go forward with the sale in this case.

Re: NQO Options Exercise: Disputing Wrong FMV
Posted by: qquartz, April 19, 2018 04:35PM
I believe I found the significantly stronger argument Art mentioned I would need.

This private company is large enough that a couple publicly traded companies/mutual funds hold it. I took a look at their quarterly statements and their valuation is in line with my valuation, not in line with the company's out of date FMV.

My strike: $10
My sale: $20
Mutual fund's valuation in quarterly report: $21
Company's FMV: $35

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