REITs Executive Compensation Guide

Section 83(b) Elections

The primary potential advantage of filing a Section 83(b) election on restricted stock is that if the stock price appreciates between grant and vesting, taxes will have been paid based on the grant date value of the shares, and no additional taxes will be owed upon vesting. Other advantages are that the capital gains holding period begins at the time of the grant (rather than upon vesting), and dividends may qualify for reduced tax rates since they will be treated as true dividends for tax purposes (rather than just as additional compensation). However, filing a Section 83(b) election on restricted stock is a gamble, with potentially severe downside risk. Two primary risks are: (1) if the stock declines in value between grant and vesting, the taxpayer will have paid taxes on the higher value; and (2) if the stock is forfeited (e.g., the vesting conditions are not satisfied), the taxpayer will have paid tax on shares that the taxpayer forfeits, and the Code generally does not allow the taxpayer to take a loss deduction or otherwise recoup the taxes paid on the shares. For these reasons, it is rare to see Section 83(b) elections filed with respect to restricted stock other than in the case of startups, where stock prices are nominal, or when restricted stock is purchased at full value.

Section 83(b) of the Code offers a choice to recipients of restricted stock (or other property issued for services) to be taxed upon vesting (or more precisely, in tax parlance, when the “substantial risk of forfeiture lapses”) or at the time of the grant. To be taxed at the time of the grant, the recipient must file a written election (commonly referred to as an “83(b) election”) with the IRS within 30 days of the grant date. If filed, the election may not be revoked. Information that must be included in the election includes the taxpayer’s name, address and taxpayer ID, a description of property, the date of grant, the nature of the restriction that creates the risk of forfeiture, the fair market value of the property at the time of grant and the amount, if any, paid for the property. Recognizing the practical difficulty of filing a paper copy of a Section 83(b) election when a tax return is electronically filed, the IRS recently eliminated the requirement that taxpayers file a copy of the election with their tax return for the year of grant; however, the initial election must still be filed within 30 days of grant with the IRS office where the taxpayer files his or her tax return.

PRACTICE POINT: Since Section 83(b) elections can only be made when “property” is transferred, and RSUs, stock options and SARs do not constitute property for purposes of Section 83, Section 83(b) elections may not be made in connection with the grant of RSUs, options or SARs. Limited partnership interests (e.g., LTIP units), however, do constitute property, so recipients of compensatory transfers of such interests in an operating partnership may file Section 83(b) elections with respect to those awards.

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