What Is an ESPP Refund and When Do You Get One?

An Employee Stock Purchase Plan (ESPP) refund refers to the return of money an employee contributed to their company’s stock purchase plan but was not ultimately used to buy company stock. These plans allow employees to acquire company stock, often at a reduced price, through regular deductions from their paychecks. This article explains when ESPP refunds occur and how they are managed, including tax implications.

What is an ESPP?

An Employee Stock Purchase Plan (ESPP) is a company-sponsored benefit that enables employees to purchase shares of their employer’s stock at a discount from the market price. This benefit is facilitated through automatic, after-tax payroll deductions. Employees choose a percentage of their pay, between 1% and 15%, to contribute to the plan. These deductions accumulate over a specific “offering period,” which spans three to six months or longer.

At the conclusion of the offering period, on a designated “purchase date,” the accumulated funds are used to buy company stock on the employee’s behalf. Many ESPPs include a “look-back provision,” which allows the purchase price to be based on the lower of the stock’s price at the beginning of the offering period or on the purchase date, which can be up to 15%. After the stock is purchased, employees have the flexibility to hold, sell, or manage their shares.

When does an ESPP refund occur?

An ESPP refund primarily occurs when contributions made by an employee are not ultimately converted into company stock. One common scenario is a voluntary withdrawal from the plan. Employees have the option to withdraw their accumulated contributions before the scheduled stock purchase date.

Another frequent reason for a refund is the termination of employment. If an employee leaves the company due to resignation, termination, or retirement before their accumulated payroll deductions are used to purchase shares, those unspent contributions are returned to them. This refund occurs through payroll.

Refunds also happen if an employee’s contributions exceed certain regulatory or plan-specific limits. For qualified ESPPs under Internal Revenue Code Section 423, the IRS limits the value of stock an employee can purchase to $25,000 per calendar year. Any contributions exceeding this limit are refunded to the employee. Companies may also impose their own limits, such as a maximum percentage of salary or a cap on the number of shares, which can lead to a refund if exceeded.

In rare instances, an ESPP refund can occur due to administrative reasons or plan events, such as a company acquisition, a plan termination, or if the stock purchase cannot be completed. These refunds specifically refer to the return of contributions that were never used to acquire stock, not proceeds from the sale of shares already purchased.

How are ESPP refunds processed and taxed?

ESPP refunds are processed by the plan administrator or the company’s payroll department. Refunds are issued via direct deposit or check. The timeline for receiving a refund can vary but occurs shortly after the event triggering the refund. Employees may need to complete paperwork to initiate a withdrawal, though in some cases, the refund process may be automatic.

ESPP refunds have specific tax treatment. ESPP refunds are not considered taxable income. This is because contributions to the ESPP are made with after-tax dollars from the employee’s paycheck. When these funds are returned to the employee, it is the return of their own money that has already been taxed.

The non-taxable nature of the refund differs from the taxation of stock purchased through an ESPP, which involves the discount received and any subsequent capital gains or losses upon sale. Since a refund represents contributions that were never used to purchase stock, tax forms related to stock sales, such as Form 1099-B, are not issued for the refund itself. The refund restores the employee’s cash balance.