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Divorce & Stock Options: Valuations, Exercised Options and Taxes Oh My!

Property distribution in divorce is difficult even in simple estates, but complications abound for those with more complex mixes of assets. These high-asset divorce cases often require review of financial portfolios, including stock options.

Stock options are often used to lure key employees into high-level positions. A stock option is a contract that allows the holder to purchase a specified amount of stock for a certain price within a set time period. Stock options can be provided as an additional form of compensation and offer an incentive not only to continue working for the company, but also to remain loyal, according to Forbes.

This type of asset is present in many upper-level employees’ portfolios, is usually considered property within divorce determinations and often comes into play in high-asset divorce proceedings.

Knowing Your Assets: Types of Stock Options and Associated Tax Implications

If a stock option is vested, or belongs to the spouse, and is forfeited only when the option expires, it is subject to property-division determinations in divorce. Within this category there are two broad types of stock options: nonqualified and qualified. Qualified or incentive stock options — known as ISOs — receive special tax treatment, often not taxed until the stock is sold and taxed at a lower rate. This option is usually offered to those holding upper-level management positions.

Nonqualified plans are often given to employees and generally do not require the holders to pay taxes when granted. Income taxes are required, however, after stock is purchased pursuant to the option on the difference between the grant price and the stock market value.

One difficult decision is determining when to exercise the stock option. Conventional wisdom often guides the holder to wait until the option is about to expire to maximize potential gain.