Do I Need a Section 83(b) Election?
Whether you’re a startup founder or employee, a Section 83(b) election can potentially save you money by allowing you to pay taxes on equity shares before they vest. It is called an election because you are electing to pay your taxes early. While an 83(b) election isn’t necessarily a guarantee that you’ll save money, it can be very helpful in the right circumstances. In this article, we’ll cover:
- What is a Section 83 (b) election?
- What are the benefits?
- Are there any downsides?
- How do I file an 83 (b) election?
- When is it a good idea?
Keep reading to find out more.
What is a Section 83(b) election?
A Section 83(b) election is a letter sent to the Internal Revenue Service that states an employee or startup founder’s preference to be taxed on equity the day that it’s granted instead of the day that it vests. It basically speeds up the timeline for figuring out taxable income.
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When does an 83(b) election need to be filed?
An 83(b) election needs to be filed with the IRS within 30 days of the purchase or grant day of the restricted stock. This counts both holidays and weekends.
What are the benefits?
Benefits of filing an 83(b) election are:
- It accelerates the start of the one-year long-term capital gain holding period. This typically manifests as preferential capital gain instead of regular taxes upon sale.
- Founders can speed up the timeline on how taxable income is determined.
It can result in big tax savings if executed correctly. If a Section 83(b) isn’t filed, taxes of restricted stock grants are paid every vesting period. The total tax amount is based on regular income rates of how much the stock's valuation on the date of vesting outpaces the purchase price. For a successful company whose shares have risen over time, this can mean a large amount owed in taxes.
Are there any downsides?
There is risk associated with Section 83(b) if a founder gives up their shares. Because an 83(b) election speeds up how taxable income is determined, if a founder were to forfeit their shares, they could end up winding paying taxes on income that never materialized.
How do I file an 83(b) election?
To file an 83(b) election, you’ll need to:
- Fill out the Section 83(b) election letter
- Send the letter in to the IRS within 30 days of the purchase or grant day
- Send a copy to your employer. Always make sure to keep a copy for your records
When Section 83(b) could be a good idea
Section 83(b) might be a good choice for you if:
- It’s unlikely you’ll forfeit your shares
- The forecast for your shares rising in value is positive
- The income amount initially reported is small