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Employee Stock Option Plans Definition

Definition

The word employee stock option plan identifies to a payment program which supplies a selection of employees having the best to buy a predetermined quantity of shares of common stock for an attractive price and within a prescribed interval. Employee stock option plans may incorporate either non-qualified stock options (NQSO) in addition to incentive options.

Explanation

Unlike stock purchase plans, which are considered non-compensatory and offer employees with the capacity to buy stocks of their provider ‘s common stock at a reduction; stock option plans are normally supplied to a select team of workers that the firm wants to maintain.

These plans provide employees with the best to get a prescribed range of shares of their provider ‘s common stock, at a specific price, also within a particular period. Generally, these programs fall in to one of the next two groups:

  • Non-Qualified Stock Options: because its name impliesthese plans tend not to match the strict tax law requirements of licensed plans. Non-qualified stock options provide companies with a tax advantage in accordance with qualified plans. Using an NQSO, the gap between the current market value of this provider ‘s common stock and the option is considered reimbursement of the employee, and the company is permitted to expenditure this benefit once the best is resolved.
  • Incentive Stock Options: When the program meets certain requirements of the taxation law, then it might be treated as an incentive stock option program, or ISO program. With one of these plans, the employee doesn’t owe taxes once the best to buy stocks is resolved. In the event the employee sells the stock two or more years from the date, and also more than 1 year later transfer or purchase, the purchase is reportedly considered a qualifying disposition and capital gains could be owed to the gap between your purchase price and sales price. Be aware that working the right to buy stocks has to be treated as income when calculating any other minimum tax owed.

Example

The board of supervisors for Company A has given 50,000 shares of stock to this provider ‘s CEO. The existing market price of Company A’s stock is $80.00 a share, whereas the options price is $75.00 per share. The expected reward period with this particular non-qualified stock option is 1 year.

The worth of this option at the time of award could function the Following:

Current Market Value of Common Stock ($80.00 x 50,000) $4,000,000
Option Price on Date of Grant ($75.00 x 50,000) $3,750,000
Compensation Expense $250,000

The journal entry to record that the trade will function the Following:

Debit Credit
Deferred Compensation Expense $250,000
Paid-In Capital: Stock Options $250,000