If you’re in the realm of startups, then you’ve probably heard about the importance of a section 83(b) election. This is primarily a tax decision that will impact your business well into the future. For many, the decision to opt for 83(b) election comes down to a variety of factors that are unique to the structure of their business. While there are clear advantages to some startups, it may not be the best option for others. Understanding more about what it is and how it impacts your business can help you understand if this is the right choice for you.
What is 83(b) Election?
The 83(b) Election is an option under the federal tax code that allows founders (and other essential parties) to opt for a fast-tracked determination about taxable income in terms of restricted stock awards or other purchases that can be vested. However, this decision has to be made pretty quickly or else you run this risk of missing the filing deadline.
You may ask yourself why this matters so much. Essentially, startups can elect to be taxed the day that the stock is purchased or granted rather than waiting for the scheduled vesting date. Basically, you can choose to pay taxes when the value is lower rather than waiting for the stock to increase in value and pay those taxes at a later date. This could save your business considerable money depending on a variety of factors.
Key Information about 83(b) Election Form
It’s essential that startups are aware of the nuances surrounding the 83(b) election. Here are a few key points to keep in mind:
- An 83(b) election must be filed within 30 days of the grant or purchase date of the stock. This timeline includes weekends and holidays.
- If a founder does not submit for an 83(b) election, then they must pay taxes based on the regularly scheduled vesting date. Keep in mind; the taxation would occur as ordinary income. This could be a significant amount of money if shares increase over the years.
- 83(b) election is not right for all businesses. A founder could end up paying taxes on unrealized income if they later forfeit their shares for whatever reason.
- The ideal situation for 83(b) election is if the income reported at the date of the grant is low and the growth potential is moderate to high.
How to File an 83(b) Election
Sometimes, individuals are overwhelmed by filing tax paperwork. However, the decision of opting for 83(b) election is much more cumbersome than actually filing the proper paperwork. Essentially you must these simple steps:
- Complete appropriate forms and letters outlining the specifics of the 83(b) election
- Mail the paperwork to the IRS. A good rule of thumb is to mail the packet as a certified letter, so you have proof of delivery for your records.
- Don’t forget to make a copy of all outgoing paperwork for your business record. This is a good practice to start with all business papers and legal and tax documents should be filed away properly.
Will 83(b) Election Work for your Business?
Startups need to be aware that there is no one-size-fits-all answer to whether or not 83(b) election is right for you. There are a variety of factors that will influence whether or not your business will benefit from the many advantages that this tax option can have. You should discuss your options with a business lawyer and tax expert to make sure that you are making the best choice for your exact circumstances.
There are a few instances where it makes more sense to file an 83(b) election such as:
- Chance of forfeiture is low
- Growth prospects are high
- Reportable income of the grant is low
However, even these circumstance are variable and should be discussed with a trained professional before determining if your business will benefit from electing this tax option.
There are many important decisions that startups have to make, even during the early stages of development. It’s in your best interest to have a startup lawyer on hand that can help you throughout the entire process.
LawTrades offers a marketplace of freelance attorneys that are fully vetted and experienced in particular areas of law. We offer a variety of payment options including a low, flat-rate option or a subscription-based legal plan for clients who need ongoing legal services throughout the year. Contact us today to discuss your options and get your startup on the right pay for future success.