new section 83(i) deferral opportunity: a new hope or just

Online CLE

New Section 83(i) Deferral Opportunity: A New Hope or Just Hype?

1.25 General CLE credits

From the Oregon State Bar CLE seminar 18th Annual Oregon Tax Institute, presented on June 7 and 8, 2018

© 2018 Laura McDaniels. All rights reserved.

Chapter 8

New Section 83(i) Deferral Opportunity: A New Hope or Just Hype?

Laura McDanieLs

Cooley LLPPalo Alto, California

Contents

Presentation Slides . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8–1

Comparison of Final Text of IRC Section 83(i) in Tax Cuts and Jobs Act vs . Empowering Employees Through Stock Ownership Act (115th Congress Version) . . . . . . . . . . . . . . . . . 8–25

Chapter 8—New Section 83(i) Deferral Opportunity: A New Hope or Just Hype?

8–ii18th Annual Oregon Tax Institute


8–118th Annual Oregon Tax Institute

attorney advertisementCopyright © Cooley LLP, 3175 Hanover Street, Palo Alto, CA 94304. The content of this packet is an introduction to

Cooley LLP’s capabilities and is not intended, by itself, to provide legal advice or create an attorney-client relationship. Prior results do not guarantee future outcome.

New Section 83(i) Deferral Election:

A New Hope or Just Hype?

Presented by Laura McDanielsCooley LLP

…and Other Selected Liquidity-Related Compensation Issues

for Private Companies

18th Annual Oregon Tax InstitutePortland, ORJune 8, 2018

Agenda

• New Section 83(i) Deferral Election

• Private Company Secondary Sale Transactions

• Recent Section 409A Guidance on Salary Deferrals

2



New Section 83(i) Deferral Election

Section 83(i) Deferral Election

• Allows eligible private company employees to defer income tax on exercise of a stock option or vesting/settlement of an RSU that covers “qualified stock” for up to 5 years (or earlier disqualifying event)

• Available for eligible option exercises and RSU settlements on or after 1/1/2018

• Imposes requirement on employers to give advance notice of availability of election

• Several interpretive questions need to be answered by the IRS

• Remains to be seen how useful the election will be for startups and other privately-held companies

4



• Enacted as part of the Tax Cuts and Jobs Act of 2017 (TCJA)

• Originated (with some differences) as Empowering Employees Through Stock Ownership Act (EESOA)• Bipartisan legislation first introduced in 114th Congress (2015-2016)

• Déjà vu all over again: Re-introduced in 115th Congress (2017-2018) with revisions

• Championed by NVCA, 70+ tech companies

• Version enacted in TCJA shortened deferral period from 7 to 5 years, removed some other helpful language from earlier bills

• Unicorn lobby also scored win in TJCA by thwarting proposed Section 409B• Earlier drafts would have eliminated nonqualified deferred compensation generally, and

taxed stock options at vesting

Section 83(i):An Origin Story

5

Section 83(i):Problems Addressed by Deferral Opportunity

• Employee generally must recognize income and pay taxes on exercise of stock options or settlement of restricted stock units (RSUs)• Incentive stock options (ISOs) not a panacea because of AMT implications and other

limitations ($100K limit, loss of ISO status upon “modifications”)

• Pre-IPO RSU designs (“Facebook-style” RSUs) can pose Section 409A issues

• Employees lack access to a market to sell stock and cover taxes

• Pressure on private companies to solve liquidity pressures• Issuer self-tenders and secondary sales (if permitted)

• Extended post-termination option exercise periods

6



Section 83(i):Eligibility for Deferral Election

Qualified Employee

Qualified Stock

Eligible Corporation

7

Tested in year of grant

Tested at election

Tested in year of grant

Section 83(i): Qualified Employee

• Has ever been the CEO or CFO (or family member of such person) CEO or CFO

• Is or has previously owned (or deemed to own) 1% or more of the company’s capital stock or voting power in the past 10 calendar years1% Owner

• Is or has previously been one of the company’s 4 highest-compensated officers in the past 10 taxable yearsTop 4 Officer

8

A “Qualified Employee” is a full-time employee (30+ hours/week) who is NOT any of the following (an “Excluded Employee”):



Section 83(i):Qualified Stock

• “Qualified Stock” means shares issued upon the exercise of an option, or settlement of RSUs, which were granted: • (i) in connection with the performance of services; and

• (ii) during a calendar year in which the company was an “Eligible Corporation”

• No put rights or cash-out rights

9

Section 83(i):Eligible Corporation

• Privately-held corporation

• Must be a corporation, not an LLC or partnership, at grant• Awards granted by LLC that subsequently converts to a corporation are

not eligible (similar to ISO rules)

• Must always have been private• Cannot be a successor to a previously public company (i.e., from a

spinout or “going private” transaction)

• Unclear whether Newco formed by asset contribution of a public company would disqualify company 10



Section 83(i):Written Plan Requirement and 80% Rule

• Must have a written plan under which • at least 80% of the company’s US full-time employees (or employees of

US possessions)

• are granted options or RSUs in the calendar year• with the same rights and privileges to receive qualified stock

• Applied to corporations on a controlled group basis pursuant to IRC 414(b)

11

Section 83(i):Evolution of 80% Rule

Comparison of S. 1444 (introduced in July 2017) vs. TCJA

“(C) ELIGIBLE CORPORATION.—For purposes of subparagraph (A)(ii)(II)—

“(i) IN GENERAL.—The term ‘eligible corporation’ means, with respect to any calendar year, any corporation if—

“(I) no stock of such corporation (or any predecessor of such corporation) is readily tradable on an established securities market (as determined under paragraph (1)(B)(iii)) during any preceding calendar year, and

“(II) such corporation has a written plan for such calendar year which meets the requirements of clause (ii).

“(ii) PLAN REQUIREMENTS.—A written plan meets the requirements of this clause with respect to any calendar year if—

“(I) not less than 80 percent of all employees who first become employees of such corporation during such calendar year are granted stock options, or restricted stock units, with the same rights and privileges to receive qualified stock, and

“(II) such corporation has a written plan under which, in such calendar year, not less than 80 percent of all employees who were employees ofprovide services to such corporation during the preceding calendar year hold in the United States (or any possession of the United States) are granted stock options, or are granted restricted stock units, with the same rights and privileges to receive qualified stock. 12



Section 83(i):80% Rule

• Applies to all eligible employees, regardless of whether they are new hires or existing employees• Earlier version of EESOA would have excluded employees who worked > 90 days during year

• Cannot aggregate RSUs and options to meet 80% rule

• “Same rights and privileges” standard will be determined under rules similar to existing rules under IRC 423(b)(5) (ESPPs)• Number of shares under each award does not need to be the same for each person, as

long as number of shares is more than a de minimus amount

13

Section 83(i):80% Rule

• Transition Relief:• For awards granted before 1/1/2018, same rights and privileges requirement is waived

• Reasonable good faith standard to interpret 80% rule and same rights and privileges requirement until IRS issues guidance

14



Section 83(i):Equal Rights and Privileges in ESPP Context

• Subject to limited exceptions, determination of purchase price, method of payment and all other ESPP offering terms must be uniform for each eligible employee within an offering

• Maximum amount of stock which may be purchased by the employee may bear a uniform relationship to the employee’s total or regular compensation

• Plan may impose a cap on number of shares purchasable by an employee

• Note it is possible to have multiple, overlapping 423-qualified offerings, and offerings that are intentionally non-qualified

15

Section 83(i):Section 83(i) Election Mechanics

• Election must be made within 30 days after the first date on which the employee’s right to the stock first become transferrable or no longer subject to a substantial risk of forfeiture, whichever is earlier • For a vested option, this deadline is presumably measured from the exercise date

• For an RSU, this would generally be the settlement date

• Similar mechanics as with a Section 83(b) election [See Rev. Proc. 2012-29 for 83(b) rules]

• Cannot “early exercise” and make both a Section 83(b) election and a Section 83(i) election

• Employee must agree to meet requirements determined to be necessary by IRS to ensure federal income tax withholding rules are met

16



Section 83(i):Section 83(i) Election Implications

• Election only applies for federal income tax purposes• FICA taxes will be due at exercise/purchase

• State income tax implications depends on state conformity with federal tax reform (as of May 2018: Oregon conforms, California does not)

• At end of deferral period, income recognized based on the value of stock on the date the qualified shares first became substantially vested• No reduction of tax liability if value of stock declines during the deferral period

• Employer’s tax deduction also deferred for the same period

• An election on ISO or ESPP shares will automatically disqualify the option, and FICA taxes will be due

• Income tax will be calculated at the highest individual tax rate 17

Section 83(i):Early Acceleration of Deferral

• Acceleration of tax timing happens if any of the following occur before the end of the 5-year deferral period:• Stock becomes publicly traded on an established securities market (e.g., in an IPO)

• Stock becomes transferable – including due to company self-tender offer

• Employee subsequently loses Qualified Employee status

• Employee revokes the deferral election

• Earlier version of EESOA would have extended deferral until end of post-IPO lockup, but this was omitted from TCJA

18



Section 83(i):Employee Notice Requirement

• Employer is required to notify an employee who exercises an option or receives shares on an RSU settlement that Section 83(i) election is available• No affirmative notice requirement if election is not available

• The notice must certify that the stock is qualified stock and include the following disclosures: • (1) if eligible, the employee may make a Section 83(i) deferral election;

• (2) the amount includible in income is determined based on the value of the stock when it substantially vests, and not when the deferral period ends;

• (3) the taxable amount will be subject to withholding at the end of the deferral period; and

• (4) the employee has certain responsibilities with respect to required withholding.

19

Section 83(i):Employee Notice Requirement

• Deadline: No later than the date when qualified stock is issued to the employee (on an option exercise or RSU settlement) or would first be includible in employee’s income (i.e., when vested, as with early exercise but no 83(b) election)• Penalty for failing to provide the notice is $100 per failure, capped at $50,000 for all

failures during any calendar year

• Transition Relief: • Until IRS issued further guidance, a company will be treated as being in compliance with

notice requirements if it applies a reasonable good faith interpretation of the requirements

20



Section 83(i):Limitations on Stock Repurchases

• Section 83(i) election not available if the company repurchased any stock in the preceding year in which the election would be made, unless:• At least 25% of value of such repurchased stock was “deferral stock” subject to pre-

existing Section 83(i) elections (if any have been made)

• Eligibility for repurchase of deferral stock must be determined “on a reasonable basis”

• FIFO method of ordering of company repurchases of deferral stock in case of employee with multiple Section 83(i) elections

• Separate IRS reporting requirement applies if a company has deferral stock outstanding and makes stock repurchases in a calendar year

21

Section 83(i):Key Open Issues

• Threshold question: mandatory vs intentional vs inadvertent satisfaction• Does plan need to require annual broad-based grants (like an ESPP offering) for

awards granted after 1/1/2018?

• Possible to prohibit election even if requirements met?

• Does broad-based requirement preclude all merit-based design?

• 80% math • Treatment of award with multi-year vesting – likely only “counts” for grant year

• Timing of measurement of 80% rule – rolling basis or year-end?

• Option repricing = new grant?22



Section 83(i):Key Open Issues

• Impact of rights in employment-related contracts • E.g., accelerated vesting, extended option exercise periods

• Election available for all grants made in calendar year when issuer qualified as an Eligible Corporation? • Definition of Qualified Stock seems to permit this

• If permitted, may provide some flexibility to work around same rights and privileges requirement

• Availability of election during post-termination option exercise period

23

Section 83(i):Early Predictions

• Section 83(i) is likely not going to be the panacea that VC-backed emerging growth companies hoped for• Prevailing market practice of large, new hire equity award with 4-year vesting, and sporadic

grants thereafter, doesn’t fit with 80% rule

• Exclusion of senior executives/founders may dampen enthusiasm for use

• 5 years may not be enough time

• According to the 2017 NVCA Yearbook, the average age of all venture-backed companies going public increased from 5.1 years in 2006 to 7.6 years in 2016.

• Private companies often have a difficult enough time keeping current with existing reporting, withholding and recordkeeping requirements for their equity programs

24



Section 83(i):Early Predictions

• Few pre-2018 equity grants will meet eligibility requirements• Most pre-IPO RSUs are not going to qualify as they are designed to delay settlement until a

liquidity event

• Instances where options are eligible for Section 83(i) election:

• Early-stage companies with few employees and spike in hiring in a single year

• “Top up” grants made on a broad basis following a down round financing

• Some companies may seek to prohibit Section 83(i) elections as a condition of grant going forward

• BUT, broad-based grant of Section 83(i)-eligible options could be used strategically to….

25

• … Move away from current private company equity model • Typical model:

• Single large equity grant at hire with 4-year vesting;

• Refresh may occur in year 3 or 4 – often set at 25% of new hire grant level; often only given to top performers

• Some VCs are advocating making smaller grants with shorter vesting schedules more frequently

• Seen as a way to boost retention and mitigate the “lottery ticket” effect for early employees

• Example: Annual “evergreen” grants made at employee’s 2 ½ year anniversary and annually thereafter, equal to 25% of what employee would have received as a new hire grant

• Counterpoint: More frequent grants means escalating exercise price (assuming stock price continued to increase)

26

Section 83(i):Potential Design Opportunities



Section 83(i):Potential Design Opportunities

27

2017 PayScale survey of 7,700 employers in US and Canada

• 77% of respondents were public or private companies

• 46% were small companies (99 or less employees)

• 25% were large (750-4,999 employees) or enterprise (5000+) companies

… Promote pay equity and pay transparency goals

Private Company Secondary Sale Transactions



Private Company Liquidity Statistics

• 2017 Secondary Sales on Nasdaq Private Market:• Average age of company: 8.5 years

• Primary capital raised: $135 million

• Valuation: $1.4 billion

• Employees: 300

29Source: Nasdaq Private Market 1H 2017 Private Company Report

Hypothetical Founder/Employee Secondary Sale Transaction

• Selling Stockholders sell a portion of their Common Stock to an Investor • Either one-off/small group or broad-based tender offer

• May be sold at the same time as the Investor purchases Preferred Stock (to achieve blended price for entire % stake sold)

• Purchase price paid by the Investor for the Common Stock (“Secondary Sale Price”) is the same as (or sometimes slightly less than) the Preferred Stock price• Preferred Stock has various preferential rights not held by the Common Stock (e.g., a

liquidation preference)

• The most recent valuation of the Common Stock determined by 3rd party appraisal firm, for purposes of determining the grant date FMV for compensatory option grants in compliance with IRC§409A (the “Appraised Common FMV”), was substantially lower than the Secondary Sale Price

31



Founder/Key Employee Secondary Sale: Intended Tax Treatment (generally)

• In form, the Selling Stockholders sold Common Stock to the Investor

• If the form of the transaction is respected:• Proceeds from the stock sale normally give rise to capital gain equal to the excess of the

sale consideration over the seller’s tax basis in the stock sold

• Such capital gain normally qualifies for the preferential federal income tax rates applicable to non-corporate taxpayers if the stock was held for more than a year at the time of sale

31

Substance Over Form Doctrine

• Doctrine permits IRS to treat a transaction that formally qualifies for a certain tax treatment as instead warranting a different tax treatment to the extent that the substance of the transaction is inconsistent with that form

• Substance over form doctrine is potentially implicated in these secondary sales

• IRS could look for alternative means to characterize the “excess” consideration received by the Selling Stockholders for their Common Stock

32



Potential Compensation Recast

• If all or some of Selling Stockholders are employees or other current or former service providers to the Company, IRS might argue that • Excess of the Secondary Sale Price over the Appraised Common FMV should be

treated as disguised compensation • See, e.g. Treas. Reg. 1.83-6(d)(1)

• Investor under this characterization would be deemed to: • Contribute excess sale proceeds to the Company as a capital contribution (or as

additional purchase price for the Preferred Stock acquired from the Company)• Followed by payment of same amounts by the Company to the Selling

Stockholders as compensation

33

Potential Compensation Recast (Continued)

34

Company

Common Stock

$ (FMV of Common Stock)

Investor Founders & Key Employees

$

$ (Compensation)

Preferred Stock Common Stock



Potential Fee Recast

• Alternatively, the IRS could argue that the excess of the Secondary Sale Price over the Appraised Common FMV could be considered a fee, taxable as ordinary income but not compensation for services• Rationale: Selling Stockholder is exercising its power as major stockholder

and/or member of management to support the financing

• Characterization as non-compensatory fee income may be marginally better for the Selling Stockholders (and the Company) because compensation income is additionally subject to employment taxes (the most significant of which is FICA)

35

Counterargument #1: The Purchase Price is Fair Market Value

• Main Argument: • Selling Stockholders would have been unwilling to sell their Common Stock at the

valuation determined by the appraisal• Amount above Appraised Common FMV is a noncompensatory “control premium”

• Challenges:• Company may be in position of adopting a valuation position for purposes of the

secondary sale transaction that is contrary both to 3rd party valuation evidence and the board’s adoption of Appraised Common FMV for other purposes • Risk of discounted stock options, or underwithholding on option exercises

• Often evidence indicates that the Investor would not have paid the purchase price it paid to the Selling Stockholders unless they “made up” the loss of liquidation preference by buying Common Stock through an increased liquidation preference for the Preferred Stock

36



Counterargument #2: No Evidence of Compensatory Intent

• Main Argument: • No evidence of either the Investor or the Company wanting to compensate the Selling

Stockholders by overpaying for their Common Stock

• Investor arguably has little if any direct compensation motivation, and the Company already is paying normal salary and bonuses that (presumably) it considers market based

• Challenges: • The tax law defines compensation broadly – may include amounts paid to induce a

service provider to remain with the employer or to maintain strong morale so as to be motivated to maximize the employer’s value for the stockholders

• Company and Investor might want to accommodate that desire in order to retain and motivate critically important service providers

37

Counterargument #3: Payments Solely in Accordance with Ownership

• Main Argument:• Amount of payments to Selling Stockholders are calculated on a per share basis

based on shares sold (rather than in varying amounts based on perceived value of services), which tends to show that the payments related to the value of their Common Stock rather than the value of their services

• This argument is more compelling if the Selling Stockholders include non-service providers

• Challenges:• Often there are no non-service providers in involved in the secondary sale• Sometimes tender offer includes preferred holders from earlier financing rounds,

but price paid is the same regardless of type of stock sold

38



Company Tax Exposure

• The risk of compensation treatment is principally a concern for the Selling Stockholders

• Arguably, the Company would receive a potential tax benefit from such a compensation recharacterization as it could claim compensation deductions from its income for the year of payment • If company is a taxpayer, the potential compensation deductions may reduce the

likelihood of an IRS challenge, since such a challenge could potentially cost the IRS more revenue than it might gain

• BUT, if the Company is already in a significant loss position, such compensation deductions may provide little to no benefit

39

Company Tax Exposure (cont’d)

• Nevertheless, the Company has three potential sources of tax exposure from the risk of such recharacterization • Employer portion of employment taxes associated with the deemed

compensatory payments• Failure to withhold penalties• Failure to file correct information return penalties

• If the excess of the Secondary Sale Price over the Appraised Common FMV were treated as a fee or other non-compensatory payment to approve the transaction, then there shouldn’t be any such Company tax exposure

40



Who is the Employer if the Investor Pays? Company vs. Investor Tax Exposure

• For income tax withholding purposes, an “employer” is the person for whom the individual performs or performed services as an employee • Except that if that person does not have control of the payment of wages for such

services, the employer is the person in control of the wage payments

• Where a shareholder transfers property to an employee of the issuing corporation, the IRS has ruled that the transferor-shareholder is the person who bears the responsibility for wage withholding at source (although the IRS will not object if the true common law employer carries out the wage withholding obligation)• See Rev. Rul. 81-45• The ruling mentioned above does not address withholding of the employee portion of

FICA taxes, nor does it address responsibility for Form W-2 reporting

41

Recent Section 409A Guidance on Salary Deferrals



IRC Section 409A Guidance: Salary Deferrals

• Background• General rule for short term deferrals: cannot delay payment of an amount that is exempt

from Section 409A as a short term deferral by imposing a new vesting requirement (SRF) • This is an anti-abuse rule – IRS assumes an employee would not agree to add a

vesting requirement (and risk of forfeiture) except as a way to delay taxes• But IRS will respect the new SRF if the present value of the amount subject to the

additional SRF is materially greater than the present value of the amount the employee otherwise could have elected to receive absent such risk of forfeiture

• Question: What amount is “materially” greater to permit the addition of a new SRF and further delay payment of a short term deferral without a Section 409A violation?

43


Answer: Per IRS chief counsel, 25% additional value is “material” • Chief Counsel Memorandum (CCM) 201645012 involved a salary deferral plan,

where participants could voluntarily elect to defer a portion of their salary

• Amounts deferred were made subject to new service-based vesting conditions, and were credited with a 25% employer match

• Vested amount + employer match would be paid shortly after vesting

• CCM concluded that the 25% employer match was sufficient to permit addition of new SRF, and delayed payment would remain a “short term deferral” that was exempt from Section 409A

• CCMs are not binding law, so 25% is not a mandatory minimum to meet “materiality” requirement for new SRF – more like a “safe harbor”

44




• Takeaways:• CCM provides added flexibility to design a deferral arrangement without having to comply

with strict Section 409A election timing and payment rules• May be useful for cash-strapped companies to avoid possible Section 409A violation

when salary is deferred until next financing• Example: CEO/founder agrees to forego salary until next financing or CIC in

exchange for “transaction bonus” equal to 1.25x monthly salary times number of months until payment, provided she remains employed through such transaction

• Ability to add new vesting requirement promotes employee retention• Example: Voluntary program for commissioned employees to elect between earned

commission paid in cash vs new RSU award with new vesting requirement, where grant date value of RSU is at least 125% of amount of foregone earned cash

45


8–2518th Annual Oregon Tax Institute177780974 v23

Comparison of Final Text of IRC Section 83(i) in Tax Cuts and Jobs Act vs. Empowering Employees Through Stock Ownership Act (115th Congress Version)

115TH CONGRESS

1ST SESSION

S. 1444

To amend the Internal Revenue Code of 1986 to modify the tax treatment of certain equity grants.

IN THE SENATE OF THE UNITED STATES

JUNE 27, 2017

Mr. WARNER (for himself and Mr. HELLER) introduced the following bill; which was read twice and referred to the Committee on Finance

A BILL

To amend the Internal Revenue Code of 1986 to modify the tax treatment of certain equity grants.

Be it enacted by the Senate and House of Representatives of the United States of America in Congress assembled,

SECTION 1. SHORT TITLE.

This Act may be cited as the “Empowering Employees through Stock Ownership Act”.

SEC. 213603. TREATMENT OF QUALIFIED EQUITY GRANTS. (a) In General.—Section 83 of the Internal Revenue Code of 1986 is amended

by adding at the end the following new subsection: “(i) Qualified Equity Grants.— “(1) IN GENERAL.—For purposes of this subtitle— “(A) TIMING OF INCLUSION.—If qualified stock is transferred to a

qualified employee who makes an election with respect to such stock under this



subsection, subsection (a) shall be applied by including the amount determined under such subsection with respect to such stock in income of the employee in the taxable year determined under subparagraph (B) in lieu of the taxable year described in subsection (a).

“(B) TAXABLE YEAR DETERMINED.—The taxable year determined under this subparagraph is the taxable year of the employee which includes the earliest of—

“(i) except as provided in subparagraph (C), the first date such qualified stock becomes transferable (including, solely for purposes of this clause, becoming transferable to the employer),

“(ii) the date the employee first becomes an excluded employee, “(iii) except as provided in subparagraph (C), the first date on which any stock of

the corporation which issued the qualified stock becomes readily tradable on an established securities market (as determined by the Secretary, but not including any market unless such market is recognized as an established securities market by the Secretary for purposes of a provision of this title other than this subsection),

“(iv) the date that is 75 years after the first date the rights of the employee in such stock are transferable or are not subject to a substantial risk of forfeiture, whichever occurs earlier, or

“(v) the date on which the employee revokes (at such time and in such manner as the Secretary may provides) the election under this subsection with respect to such stock.

“(C) SPECIAL RULE FOR STOCK SUBJECT TO LOCK-UP PERIODS.—

“(i) IN GENERAL.—In the case of any qualified stock which is subject to a lock-up period—

“(I) such stock shall not be treated as transferable under subparagraph (B)(i), and

“(II) such stock shall not be treated as readily tradable on an established securities market under subparagraph (B)(iii),

before the end of the lock-up period.

“(ii) LOCK-UP PERIOD.—For purposes of this subparagraph, the term ‘lock-up period’ means any period (not to exceed 180 days)—

“(I) which begins on the date of an initial public offering, and



“(II) during which the qualified employee agrees, pursuant to an underwriting agreement entered into pursuant to such initial public offering, not to sell, otherwise dispose of, or hedge any qualified stock.

“(2) QUALIFIED STOCK.— “(A) IN GENERAL.—For purposes of this subsection, the term ‘qualified

stock’ means, with respect to any qualified employee, any stock in a corporation which is the employer of such employee, if—

“(i) such stock is received— “(I) in connection with the exercise of an option, or “(II) in settlement of a restricted stock unit, and “(ii) such option or restricted stock unit was granted by the corporation— “(I) in connection with the performance of services as an employee, and “(II) during a calendar year in which such corporation was an eligible

corporation. “(B) LIMITATION.—The term ‘qualified stock’ shall not include any stock

if the employee may sell such stock to, or otherwise receive cash in lieu of stock from, the corporation at the time that the rights of the employee in such stock first become transferable or not subject to a substantial risk of forfeiture.

“(C) ELIGIBLE CORPORATION.—For purposes of subparagraph (A)(ii)(II)—

“(i) IN GENERAL.—The term ‘eligible corporation’ means, with respect to any calendar year, any corporation if—

“(I) no stock of such corporation (or any predecessor of such corporation) is readily tradable on an established securities market (as determined under paragraph (1)(B)(iii)) during any preceding calendar year, and

“(II) such corporation has a written plan for such calendar year which meets the requirements of clause (ii).

“(ii) PLAN REQUIREMENTS.—A written plan meets the requirements of this clause with respect to any calendar year if—

“(I) not less than 80 percent of all employees who first become employees of such corporation during such calendar year are granted stock options, or restricted stock units, with the same rights and privileges to receive qualified stock, and

“(II) such corporation has a written plan under which, in such calendar year, not less than 80 percent of all employees who were employees ofprovide services to such corporation during the preceding calendar year hold in the United States (or any possession of the United States) are granted stock options, or are



granted restricted stock units, with the same rights and privileges to receive qualified stock.

“(iii) SAME RIGHTS AND PRIVILEGES.—For purposes of clause (iii)(II)— “(I) except as provided in subclauses (II) and (III), the determination of

rights and privileges with respect to stock shall be made in a similar manner as under section 423(b)(5),

“(II) employees shall not fail to be treated as having the same rights and privileges to receive qualified stock solely because the number of shares available to all employees is not equal in amount, so long as the number of shares available to each employee is more than a de minimis amount, and

“(III) rights and privileges with respect to the exercise of an option shall not be treated as the same as rights and privileges with respect to the settlement of a restricted stock unit.

“(iviii) EMPLOYEE.—For purposes of clause (iii)(II), the term ‘employee’ shall not include—

“(I) any employee described in section 4980E(d)(4), or any excluded employee.

“(II) any excluded employee, and

“(III) with respect to any corporation for any calendar year, any individual who provides services for such corporation in the United States (or any possession of the United States) for a period of less than 90 days during such calendar year.

“(viv) SPECIAL RULE FOR CALENDAR YEARS BEFORE 20202018.—In the case of any calendar year beginning before January 1, 20202018, clause (iii)(II) shall be applied without regard to whether the rights and privileges with respect to the qualified stock are the same.

“(3) QUALIFIED EMPLOYEE; EXCLUDED EMPLOYEE.—For purposes of this subsection—

“(A) IN GENERAL.—The term ‘qualified employee’ means any individual who—

“(i) is not an excluded employee, and “(ii) agrees in the election made under this subsection to meet such

requirements as are determined by the Secretary to be necessary to ensure that the withholding requirements of the corporation under chapter 24 with respect to the qualified stock are met.



“(B) EXCLUDED EMPLOYEE.—The term ‘excluded employee’ means, with respect to any corporation, any individual—

“(i) who wasis a 1-percent owner (within the meaning of section 416(i)(1)(B)(ii)) at any time during the calendar year or who was such a 1 percent owner at any time during the 10 preceding calendar years,

“(ii) who is or has been at any prior time— “(I) the chief executive officer of such corporation or an individual acting

in such a capacity, or “(II) the chief financial officer of such corporation or an individual acting

in such a capacity, “(iii) who bears a relationship described in section 318(a)(1) to any

individual described in subclause (I) or (II) of clause (ii), or “(iv) who was for any of the 10 preceding taxable years is one of the 4 highest

compensated officers of such corporation for the taxable year, or was one of the 4 highest compensated officers of such corporation for any of the 10 preceding taxable years, determined with respect to each such taxable year on the basis of the shareholder disclosure rules for compensation under the Securities Exchange Act of 1934 (as if such rules applied to such corporation).

“(4) ELECTION.— “(A) TIME FOR MAKING ELECTION.—An election with respect to qualified

stock shall be made under this subsection no later than 30 days after the first date the rights of the employee in such stock are transferable or are not subject to a substantial risk of forfeiture, whichever occurs earlier, and shall be made in a manner similar to the manner in which an election is made under subsection (b).

“(B) LIMITATIONS.—No election may be made under this section with respect to any qualified stock if—

“(i) the qualified employee has made an election under subsection (b) with respect to such qualified stock,

“(ii) any stock of the corporation which issued the qualified stock is readily tradable on an established securities market (as determined under paragraph (1)(B)(iii)) at any time before the election is made, or

“(iii) such corporation purchased any of its outstanding stock in the calendar year preceding the calendar year which includes the first date the rights of the employee in such stock are transferable or are not subject to a substantial risk of forfeiture, unless—

“(I) not less than 25 percent of the total dollar amount of the stock so purchased is deferral stock, and



“(II) the determination of which individuals from whom deferral stock is purchased is made on a reasonable basis.

“(C) DEFINITIONS AND SPECIAL RULES RELATED TO LIMITATION ON STOCK REDEMPTIONS.—

“(i) DEFERRAL STOCK.—For purposes of this paragraph, the term ‘deferral stock’ means stock with respect to which an election is in effect under this subsection.

“(ii) DEFERRAL STOCK WITH RESPECT TO ANY INDIVIDUAL NOT TAKEN INTO ACCOUNT IF INDIVIDUAL HOLDS DEFERRAL STOCK WITH LONGER DEFERRAL PERIOD.—Stock purchased by a corporation from any individual shall not be treated as deferral stock for purposes of subparagraph (B)(iii) if such individual (immediately after such purchase) holds any deferral stock with respect to which an election has been in effect under this subsection for a longer period than the election with respect to the stock so purchased.

“(iii) PURCHASE OF ALL OUTSTANDING DEFERRAL STOCK.—The requirements of subclauses (I) and (II) of subparagraph (B)(iii) shall be treated as met if the stock so purchased includes all of the corporation’'s outstanding deferral stock.

“(iv) REPORTING.—Any corporation which has outstanding deferral stock as of the beginning of any calendar year and which purchases any of its outstanding stock during such calendar year shall include on its return of tax for the taxable year in which, or with which, such calendar year ends the total dollar amount of its outstanding stock so purchased during such calendar year and such other information as the Secretary may requires for purposes of administering this paragraph.

“(5) CONTROLLED GROUPS.—For purposes of this subsection, all corporations which arepersons treated as a single employer under section 414(b) shall be treated as one1 corporation.

“(6) NOTICE REQUIREMENT.—Any corporation which transfers qualified stock to a qualified employee shall, at the time that (or a reasonable period before) an amount attributable to such stock would (but for this subsection) first be includible in the gross income of such employee—

“(A) certify to such employee that such stock is qualified stock, and “(B) notify such employee— “(i) that the employee may be eligible to elect to defer income on such

stock under this subsection, and “(ii) that, if the employee makes such an election— “(I) the amount of income recognized at the end of the deferral period will

be based on the value of the stock at the time at which the rights of the



employee in such stock first become transferable or not subject to substantial risk of forfeiture, notwithstanding whether the value of the stock has declined during the deferral period,

“(II) the amount of such income recognized at the end of the deferral period will be subject to withholding under section 3401(i) at the rate determined under section 3402(t), and

“(III) the responsibilities of the employee (as determined by the Secretary under paragraph (3)(A)(ii)) with respect to such withholding.”.

“(7) RESTRICTED STOCK UNITS.—This section (other than this subsection), including any election under subsection (b), shall not apply to restricted stock units.”.

(b) Withholding.— (1) TIME OF WITHHOLDING.—Section 3401 of the Internal Revenue Code of 1986

is amended by adding at the end the following new subsection: “(i) Qualified Stock For Which An Election Is In Effect Under

Section 83( iI).—For purposes of subsection (a), qualified stock (as defined in section 83(i)) with respect to which an election is made under section 83(i) shall be treated as wages—

“(1) received on the earliest date described in section 83(i)(1)(B), and “(2) in an amount equal to the amount included in income under section 83

for the taxable year which includes such date.”. (2) AMOUNT OF WITHHOLDING.—Section 3402 of such Code Section 3402 is

amended by adding at the end the following new subsection: “(t) Rate Of Withholding For Certain Stock.—In the case of any

qualified stock (as defined in section 83(i)(2)) with respect to which an election is made under section 83(i)—

“(1) the rate of tax under subsection (a) shall not be less than the maximum rate of tax in effect under section 1, and

“(2) such stock shall be treated for purposes of section 3501(b) in the same manner as a non-cash fringe benefit.”.

(c) Coordination With Other Deferred Compensation Rules.— (1) ELECTION TO APPLY DEFERRAL TO STATUTORY OPTIONS.— (A) INCENTIVE STOCK OPTIONS.—Section 422(b) of the Internal Revenue Code

of 1986 is amended by adding at the end the following: “Such term shall not include any option if an election is made under section 83(i) with respect to the stock received in connection with the exercise of such option.”.

(B) EMPLOYEE STOCK PURCHASE PLANS.—Section 423 of such Code Section 423 is amended—



(i) by adding at the end of subsection (a) the following flush sentence:

“The preceding sentence shall not apply to any share of stock with respect to which an election is made under section 83(i).”; and

(iii) in subsection (b)(5), by striking “and” before “the plan” and by inserting “, and the rules of section 83(i) shall apply in determining which employees have a right to make an election under such section” before the semicolon at the end., and

(ii) by adding at the end the following new subsection: “(d) Coordination With Qualified Equity Grants.—An option for

which an election is made under section 83(i) with respect to the stock received in connection with its exercise shall not be considered as granted pursuant an employee stock purchase plan.”.

(C) CONFORMING AMENDMENTS.—

(i) Section 3121(a)(22)(A) of the Internal Revenue Code of 1986 is amended by inserting “(other than qualified stock (as defined in section 83(i)(2)) with respect to which an election is in effect under section 83(i))” after “a share of stock”.

(ii) Section 209(a)(19)(A) of the Social Security Act (42 U.S.C. 409) is amended by “(other than qualified stock (as defined in section 83(i)(2) of the Internal Revenue Code of 1986) with respect to which an election is in effect under section 83(i) of such Code)” after “a share of stock”.

(iii) Section 3231(e)(12)(A) of the Internal Revenue Code of 1986 is amended by inserting “(other than qualified stock (as defined in section 83(i)(2)) with respect to which an election is in effect under section 83(i))” after “a share of stock”.

(iv) Section 3306(b)(19)(A) of the Internal Revenue Code of 1986 is amended by inserting “(other than qualified stock (as defined in section 83(i)(2)) with respect to which an election is in effect under section 83(i))” after “a share of stock”.

(2) TREATMENT UNDEREXCLUSION FROM DEFINITION OF NONQUALIFIED DEFERRED COMPENSATION PLAN.—Subsection (d) of section 409A of such Code section 409A is amended by adding at the end the following new paragraph:

“(7) TREATMENT OF QUALIFIED STOCK.—An arrangement under which an employee may receive qualified stock (as defined in section 83(i)(2)) shall not be treated as a nonqualified deferred compensation plan, or as failing to meet the requirements of this section, with respect to such employee solely because of ansuch employee’'s election, or ability to make an election, to defer recognition of income under section 83(i).”.



(d) Information Reporting.—Section 6051(a) of the Internal Revenue Code of 1986 is amended by striking “and” at the end of paragraph (14)(B), by striking the period at the end of paragraph (15) and inserting a comma, and by inserting after paragraph (15) the following new paragraphs:

“(16) the amount includible in gross income under subparagraph (A) of section 83(i)(1) with respect to an event described in subparagraph (B) of such section which occurs in such calendar year, and

“(17) the aggregate amount of income which is being deferred pursuant to elections under section 83(i), determined as of the close of the calendar year.”.

(e) Penalty For Failure Of Employer To Provide Notice Of Tax Consequences.—Section 6652 of the Internal Revenue Code of 1986 is amended by adding at the end the following new subsection:

“(p) Failure To Provide Notice Under Section 83(iI).—In the case of each failure to provide a notice as required by section 83(i)(6), at the time prescribed therefor, unless it is shown that such failure is due to reasonable cause and not to willful neglect, there shall be paid, on notice and demand of the Secretary and in the same manner as tax, by the person failing to provide such notice, an amount equal to $100 for each such failure, but the total amount imposed on such person for all such failures during any calendar year shall not exceed $50,000.”.

(f) GUIDANCE.—Not later than December 31, 2018, the Secretary of the Treasury (or the Secretary's delegate) shall issue guidance with respect to section 83(i) of the Internal Revenue Code of 1986 (as added by this section), including guidance relating to—

(1) the determination the time stock first becomes transferable under such section;

(2) the determination of rights and privileges with respect to stock under paragraph (2)(C)(iii) of such section; and

(3) the requirements of paragraphs (2)(C)(i)(II) and (6) of such section.

(gf) Effective Dates.— (1) IN GENERAL.—Except as provided in paragraph (2), the amendments

made by this section shall apply to stock attributable to options exercised, or restricted stock units settled, after December 31, 20197.

(2) REQUIREMENT TO PROVIDE NOTICE.—The amendments made by subsection (e) shall apply to failures after December 31, 20197.

(g) Transition Rule.—Until such time as the Secretary (or the Secretary's delegate) issues regulations or other guidance for purposes of implementing the requirements of paragraph (2)(C)(i)(II) of section 83(i) of the Internal Revenue



Code of 1986 (as added by this section), or the requirements of paragraph (6) of such section, a corporation shall be treated as being in compliance with such requirements (respectively) if such corporation complies with a reasonable good faith interpretation of such requirements.



Summary report: Litéra® Change-Pro TDC 10.1.0.300 Document comparison done on

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