If you are an executive who has acquired non-qualified stock options, you know there’s a lot of sophisticated strategy involved when exercising them. Timing can be everything, especially now, because of a unique opportunity offered by the CARES Act. We’ve created this fictitious case study to explain how this could work.
The pandemic has thrown us all for a loop and had dramatically different impacts on people. This season seems to be the best of times for some and the worst of times for others. If you recognize you’re on the positive side of that equation, and you long to make a difference right now, the CARES Act offers a really great opportunity to deduct up to 100 percent of your adjusted gross income (AGI) and get a tax break for it.
Read on to see how Amy Carson* was able to harness this unique 2020 increased giving opportunity to accelerate her stock option exercise strategy to give big and save on taxes.
Amy is a software engineer who has been working for a technology company since her graduation from MIT 15 years ago. In 2011, she received non-qualified stock options on 10,000 shares in the company. At the time, the shares were valued at $25. Today, however, the shares are valued at $175.
A couple of years ago, Amy visited a mission in India which serves women and girls. Her heart was immediately drawn to the small ministry community, and she promised herself she would do something to increase the ministry’s capacity to serve a greater number of girls.
Amy makes a good salary and views everything she has as belonging to God. She’s generous with her income, but, as the value of her options continued to rise, she accumulated more than she would need or want for her retirement years. She loved the idea of being able to use this excess value to fund her missions giving, but she was concerned about how much taxes would reduce the amount she could give. Not only would the Federal taxes be bad, but Amy lives in California, the state with the highest capital gains tax in the country.
Here’s how it worked for Amy
After evaluating 2020’s unique 100 percent AGI giving opportunity with her professional advisors, Amy exercised her stock options in a cashless exercise, resulting in the immediate sale of the optioned shares. With her company trading at $175 a share, she would recognize $1.5 million in ordinary income. (This is compensatory, non-qualified stock options.) That’s a huge amount of income to pay taxes on, especially with the California rates.
After Federal taxes and her California taxes, normally she would only get to keep a little more than $700,000 of this income. But because of the CARES Act, there’s a new pathway that allows Amy to give the cash from the sale of her optioned shares and claim a charitable deduction against the entire income recognition resulting from her stock options exercise. This opportunity allowed Amy to accelerate her giving to the mission work she is so passionate about supporting.
She made a gift of $300,000 directly to the 501(c)(3) charity that supports the mission in India and gifted the remaining $1M to a Single-Charity Fund at NCF created for the same charity. This Single-Charity Fund allows Amy to continue to recommend the timing and amount of future gifts to the ministry without having to give them the entire lump sum all upfront in 2020.
Lastly, Amy kept back $200,000 for taxes she will still have to pay to the state of California. (The CARES Act is a federal program. Though it offers a 100 percent AGI deduction, there may still be state taxes to be paid. This is something to be mindful of when you’re making your gift, so you’re not surprised when you receive a bill for these taxes after the fact.)
Now, let’s compare that $200,000 Amy holds back to what will go to taxes if she doesn’t make the gift. If the $1.3 million does not go to the mission or another church or charity, Amy will keep her $1.5 million but pay $784,500 of it in Federal and California taxes, leaving her with a net income of $715,500.
Amy’s choice? $1.3 million to a ministry she loves or $715,500 in income Amy and her advisor agree she doesn’t need. Amy loves to give. She feels God calling her to be a wise and effective giver.
Talk about using your resources wisely and maximizing impact! Because of the opportunity offered by the CARES Act, Amy accelerates her stock-option-exercise strategy, pays an 11 percent effective tax rate on the income from her stock options, compared with a 52-percent effective tax rate she would have paid if she had kept the money for herself.
She saves a total of $618,750 in taxes.
In the end – though she is extremely happy to save – Amy isn’t really thinking about taxes; she’s thinking about the opportunity to accelerate her giving to impact lives now. Specifically, she is remembering Preena, the first girl she met in India who’d been rescued out of a human-trafficking operation. As she thinks about how many more girls like Preena could be saved, tears fill her eyes. This could never have happened if her professional advisors and NCF team hadn’t helped her learn about the possibilities.
By taking advantage of this unique opportunity from the CARES Act that is available only this year, Amy makes a huge impact for Preena and others. If she had waited for another year, she would have missed it.
* Amy Carson is fictitious, used here for example.
Because timing is important and the details can get tricky, we strongly recommend you contact your financial advisor or local NCF office for help.