What Is a Treasury Regulation 1.83.2 Election?

When individuals receive property like restricted stock for their services, they have a tax choice under Treasury Regulation Section 1.83-2, known as a Section 83(b) election. This election alters the timing of tax liability on the property. Instead of paying tax when the property fully vests, a person can choose to be taxed in the year it is granted. This decision changes how and when its value is recognized as income.

Understanding the Tax Implications of the Election

Under Internal Revenue Code Section 83, the default tax treatment for property received for services is to recognize income when the property vests. Vesting occurs when the property is no longer subject to a substantial risk of forfeiture, such as a requirement to remain employed for a certain period. At the vesting date, the property’s entire fair market value (FMV) is taxed as ordinary income. Any appreciation in value from the grant date to the vesting date is taxed at these higher rates.

Filing a Section 83(b) election changes this outcome. By filing the election, the individual chooses to include the property’s value in their gross income at the time of the grant, rather than at vesting. The ordinary income recognized is the FMV at the grant date, less any amount paid for it. Any subsequent appreciation in the property’s value is then treated as a capital gain, not ordinary income.

Consider an employee granted 1,000 shares of restricted stock at an FMV of $1 per share, with the stock vesting in four years. If no election is made and the stock’s value increases to $10 per share at vesting, the employee recognizes $10,000 of ordinary income in the fourth year. If a Section 83(b) election is filed at grant, the employee recognizes only $1,000 of ordinary income in the first year. If they later sell the stock for $10,000 after holding it for more than a year post-grant, the $9,000 of appreciation is taxed at the long-term capital gains rate.

Information and Documents for the Election

To make a Section 83(b) election, the taxpayer must prepare a statement, either on their own or using the optional IRS Form 15620. The statement must include:

• The taxpayer’s name, address, and taxpayer identification number (TIN).
• A description of the property, such as the number of shares of stock.
• The date the property was transferred and the taxable year for the election.
• A description of any restrictions on the property, such as vesting requirements.
• The fair market value (FMV) of the property at the time of transfer.
• The amount, if any, paid to acquire the property.

Determining the FMV is straightforward for publicly traded stock but requires more effort for private company stock. For private stock, the valuation might be based on a recent 409A valuation, a funding round, or another reasonable method.

The Filing Procedure

The election must be filed with the IRS no later than 30 days after the date the property was transferred to the individual. This deadline is strict. If the 30th day falls on a weekend or legal holiday, the deadline is extended to the next business day.

The signed election statement must be mailed to the IRS service center where the taxpayer files their annual income tax return. Using certified mail with a return receipt is recommended as it provides proof of the mailing date, which is important for demonstrating timely filing.

In addition to filing with the IRS, the person making the election must provide a copy of the statement to their employer. While a copy is no longer required to be attached to the federal income tax return, it is good practice to retain one with your tax records for that year.

Consequences of Forfeiture

Making a Section 83(b) election involves a financial risk if the property is later forfeited. Forfeiture occurs if conditions, such as continued employment, are not met before the property vests. If property for which an election was made is forfeited, the taxpayer is generally not allowed a deduction for the taxes they paid on the income recognized when the election was filed.

Under Section 1.83-2, a forfeiture is treated as a sale or exchange. The resulting loss is limited to the excess of the amount the taxpayer paid for the property over any amount realized upon forfeiture. If the taxpayer paid nothing for the property, they are not entitled to any tax loss if the shares are forfeited, despite having paid income tax on their value at the grant.

For instance, if an individual paid $500 for stock and recognized $2,000 in income via an 83(b) election, but later forfeited the stock before vesting, their deductible loss is only $500. The tax paid on the $2,000 of income is not recoverable.