Although this result typically isn't built into the terms of the rollover, from a practical standpoint, it may be difficult for long-tenured executives to avoid rolling over again if they want to maintain their role with the portfolio companies. The same result could apply to some or all their equity compensation if they are participating in an equity plan.If the rollover participant is a member of the management team, rollover equity is technically equity compensation subject to the IRC § 83's rulesThere appears to be little direct tax authority discussing the tax treatment of rollover equity from the equity compensation standpoint. Nevertheless, if a management team member exchanges target company equity for buyer equity, that issuance of buyer equity appears to technically fall within the potential scope of IRC § 83.

On October 17, 2023, the U.S. Internal Revenue Service (IRS) updated its Internal Revenue Manual (IRM)[1] to fully incorporate into the IRM certain e-signature policies and procedures permitting the use of electronic signatures on certain forms, including elections under section 83(b) of the Internal Revenue Code of 1986, as amended (the “Code,”[2] and such elections, “Section 83(b) Elections”). This indefinitely extends the prior temporary relief granted by the IRS that was set to expire on October 31, 2023.The IRS has historically required wet ink signatures for most tax documents, including Section 83(b) Elections.[3] However, during the COVID-19 Pandemic, the IRS temporarily expanded the forms for which electronic signatures would be accepted.[4] This temporary relief did not extend to Section 83(b) Elections until the IRS issued a memorandum on April 15, 2021 (the “April 2021 Memorandum”) that temporarily permitted electronic signatures on Section 83(b) Elections.[5] The temporary relief provided by the April 2021 Memorandum was initially scheduled to expire on December 31, 2021, but the IRS later extended such relief until October 31, 2023 in a subsequent memorandum.[6] Such relief is now indefinitely extended pursuant to the IRM.The IRS’ electronic signature policy for Section 83(b) Elections a

k (as the option holder would upon exercise of a vested option) but instead receives restricted stock that is generally subject to the same vesting schedule that applied to the unvested option. If the holder of the restricted stock leaves the company before those shares are fully vested, the company generally has the right to repurchase any unvested shares at the same price the holder paid for them.Intended Benefits of Early ExercisingBy taking advantage of an early exercise feature, an option holder generally hopes to both:minimize any ordinary compensation income resulting from exercise of the option; andstart the capital gains holding period for the stock underlying the option before the option would otherwise vest.Where the Rubber meets the Road – Consequences of Early ExercisingThough the intended benefits of early exercising options sound great in theory, depending on the type of option being exercised, the point in time when it is exercised, and whether or not an election under Section 83(b) of the Internal Revenue Code (a “Section 83(b) election”) is timely and properly filed, early exercising an option may not necessarily achieve the intended tax benefits.Early Exercising NSOsIf the option is an nonstatutory stock option (an NSO) and a Section 83(b) election is timely and properly filed within 30 days of the date of exercise of the NSO, (i) the difference between the fair market value of the stock on the date of exercise and the exercise price paid (also known as the “spread”), if any, will be ordinary compensation income to the option holder and (ii) the capital gains holding period (and, incidentally, the five-year holding period for qualified small business stock purposes) will begin at the time of exercise. This is really the textbook example of why an option holder may want to early exercise – if the option holder exercises at a time when the fair market value is equal to the exercise price, then there will be no compensation income at the time the Section 83(b) election is made and the option

Although the employee owns the shares as of the grant date if the employee leaves before their shares vest, their unvested shares are forfeited. This is an example of what Section 83 of the Internal Revenue Code (the “Code”) refers to as a “substantial risk of forfeiture.” When a substantial risk of forfeiture exists, as with a grant of restricted stock, the employee is not required to recognize income at the time of the grant.

e conditions set forth in the grant agreement.This is a burden that should not be taken lightly and, so, the imposition of such conditions and risks of forfeiture should likewise not be undertaken lightly, especially where the employee’s continued happiness and presence is vital to the well-being of the business. See https://americansfortaxfairness.org/issue/dynasty-trusts-giant-tax-loopholes-supercharge-wealth-accumulation/ for an interesting but disturbing discussion of dynastic wealth. Which may be performance-based. Basically, an unsecured, unfunded promise to pay compensation at some time in the future. Don’t forget IRC Sec. 409A See IRC 7872. Reg. Sec. 1.61-22. But see the punitive golden parachute rules of IRC Sec. 280G and Sec, 4999 In some cases, statutory stock options may be available. IRC Sec. 421 et seq. For “nonqualified” stock options, see Reg. Sec. 1.83-7. In either case, the exercise price must equal the fair market value of the underlying equity at the date of grant. IRC Sec. 83. Profits interests are limited to tax partnerships. Rev. Proc. 93-27 and Rev. Proc. 2001-43. The equity may or may not have voting rights.We will assume that the employee is not furnishing any consideration other than their services. In other words, we are not looking at a bargain issuance of stock. After all, you suddenly have a minority owner to whom certain fiduciary duties are owed, with whom certain financial information will have to be shared, and to whom the law affords certain protections. A well-drafted shareholders’ or partnership/operating agreement can go a long way toward addressing many concerns. Assuming they have recovered from the shock of having to guarantee business debt and other obligations (like a line of credit or a lease). In most instances, the equity will be issued by the employer. However, it is possible for a large shareholder to transfer some of their shares of employer stock to an employee of the corporation in connection with the employee’s services to t

Understanding what is and what isn't an applicable partnership interest is critical from a planning standpoint.The capital interest portion of a partnership interest is not an applicable partnership interestFor purposes of IRC § 1061, a "capital interest" is defined to include "any capital interest in the partnership which provides the taxpayer with a right to share in partnership capital commensurate with (i) the amount of capital contributed (determined at the time of receipt of the partnership interest), or (ii) the value of such interest subject to tax under IRC § 83 upon the receipt or vesting of such interest." If a hedge fund professional is issued a capital interest, his pro rata share of profits based on invested capital is not an applicable partnership interest.

Understanding what is and what isn't an applicable partnership interest is critical from a planning standpoint.The capital interest portion of a partnership interest is not an applicable partnership interestFor purposes of IRC § 1061, a "capital interest" is defined to include "any capital interest in the partnership which provides the taxpayer with a right to share in partnership capital commensurate with (i) the amount of capital contributed (determined at the time of receipt of the partnership interest), or (ii) the value of such interest subject to tax under IRC § 83 upon the receipt or vesting of such interest." If a hedge fund professional is issued a capital interest, his pro rata share of profits based on invested capital is not an applicable partnership interest.

The capital account rules anticipate the grant of such an interest by permitting the adjustment of capital accounts in connection with the grant of an interest in the partnership (other than a de minimis interest) as consideration for the provision of services to or for the benefit of the partnership by an existing partner acting in a partner capacity, or by a new partner acting in a partner capacity or in anticipation of being a partner. Reg. Sec. 1.704-1(b)(2)(iv)(f)(5)(iii). By contrast, a partnership capital interest (which entitles the recipient partner to a share of the proceeds if the partnership’s assets were sold at fair market value and the proceeds were distributed in liquidation) received for services is includable in the partner’s income under IRC Sec. 83, dealing with the receipt of property for the performance of services. Rev. Proc. 93–27.

Thus, the income of the S corporation should have passed through, pro rata, to the control person in the tax years in question.Key Issues:Whether the Commissioner erred in finding that pass-through income from an S corporation, Morley, Inc., was includable in John Larson’s taxable income for tax years 1999 and 2000 when Larson, a control person, was the beneficial owner of Morley, Inc. stock that was contributed to an employee stock ownership plan (ESOP) but restricted by employment performance requirements and strict voting procedures?Whether the Commissioner erred in denying as ordinary and necessary business expenses deductible under section 162, certain expenses incurred and paid by S corporation, Morley, Inc.Short Answers: No, and no.Primary Holdings:Under the facts and circumstances of the case, the value of the stock in the S corporation was not subject to a substantial risk of forfeiture for the years in question as required by 26 U.S.C. § 83. Larson, along with the other control persons of Morley and the ESOP, failed to enforce employment performance restrictions, and Larson “grotesquely” failed to perform his fiduciary duties associated with the ESOP. Therefore, the Commissioner was correct in assessing the value of the stock in Larson’s taxable income for the applicable tax years.Larson’s “relationship to the officers and directors of the [S] corporation and their actions [to waive restrictions associated with the stock and to breach fiduciary duties owed to the ESOP] revealed an effort to collectively avoid enforcement of the restrictions.

Thus, the income of the S corporation should have passed through, pro rata, to the control person in the tax years in question.Key Issues:Whether the Commissioner erred in finding that pass-through income from an S corporation, Morley, Inc., was includable in John Larson’s taxable income for tax years 1999 and 2000 when Larson, a control person, was the beneficial owner of Morley, Inc. stock that was contributed to an employee stock ownership plan (ESOP) but restricted by employment performance requirements and strict voting procedures?Whether the Commissioner erred in denying as ordinary and necessary business expenses deductible under section 162, certain expenses incurred and paid by S corporation, Morley, Inc.Short Answers: No, and no.Primary Holdings:Under the facts and circumstances of the case, the value of the stock in the S corporation was not subject to a substantial risk of forfeiture for the years in question as required by 26 U.S.C. § 83. Larson, along with the other control persons of Morley and the ESOP, failed to enforce employment performance restrictions, and Larson “grotesquely” failed to perform his fiduciary duties associated with the ESOP. Therefore, the Commissioner was correct in assessing the value of the stock in Larson’s taxable income for the applicable tax years.Larson’s “relationship to the officers and directors of the [S] corporation and their actions [to waive restrictions associated with the stock and to breach fiduciary duties owed to the ESOP] revealed an effort to collectively avoid enforcement of the restrictions.