Non-qualified stock options tax optimization strategy

Question

I'm trying to understand the best strategy for reducing tax liability with non-qualified stock options.

Assuming the stock price will only ever increase

1. Exercise all newly vested options as soon as possible each time options vest.
2. Hold newly exercised stock for at least a year.
3. Sell stock after you've held it for the year.

My question is the above different at all from the following:

1. Cashless sell all newly vested options as soon as possible each time options vest.
2. Use proceeds from cashless sale immediately to buy the stock at FMV and hold for at least a year.
3. Sell stock after you've held it for the year.

In both would seems:

• FMV at exercise minus strike price will be taxed at ordinary income and
• FMV on sale date minus FMV on exercise date will be taxed at the long term gains rate

Answer 1

You are still taxed on the realized ordinary income if you immediately sell your shares. Further, your cost basis will be at least as high compared to exercise-and-hold. Even if the share price decreased, your cost basis would be adjusted upwards due to wash sale rules.

Once you sell the stock for a long-term gain, a higher cost basis would reduce your gross capital gain, lowering the capital gains tax you'll owe. But your net capital gain would also be less than what you would have realized had you simply exercised the options and held the shares. So you tax liability could be reduced, but only because your taxable proceeds are less.