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I recently enrolled in my company's employee stock purchase plan (ESPP) with the maximum-allowed 10% of my salary. I get the stock at a 15% discount relative to the purchase date (no look-back provision anymore unfortunately). I understand the tax issues concerning ESPPs are very complicated but I am planning to sell my shares immediately and pay normal income tax rates on the profit, so that simplifies things. It should be roughly a 1.5% bonus (10% of income * 15% discount), which is not insignificant.

My question is, will my employer withhold taxes on the amount of the discount (which is always taxed at normal income rates if I understand correctly)? If not is it possible I would end up owing too much in taxes and get hit with an underpayment penalty? I keep my withholding exemptions at 0 but I also got $5K in consulting income this year with no withholding. I didn't bother paying estimated taxes because I have a $5K deduction to mostly cancel that out.

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The company will probably not withhold anything from the sale itself, so you need to take it into the account. Ask your payroll department if they adjust their calculations for the regular salary withholding, but I don't think they do.

  • Right. But for OP, it's 1.5% of income, say 1500 on 100K. $375 in the 25% bracket. Not enough to be a major issue. The $5000 untaxed income is a far grater issue. – JoeTaxpayer May 18 '13 at 4:08
  • I wouldn't expect my employer to withhold taxes on the sale, because that would require the brokerage to inform my employer that I sold the shares. But they could withhold on the 15% discount which they know will be taxed like regular income, right? – Craig W May 18 '13 at 19:20
  • @Craig that is only taxed when you're selling as a disqualifying disposition. They may or may not be aware of that sale. – littleadv May 18 '13 at 19:24
  • I see, thanks. So it's actually possible that the brokerage would inform the employer that the shares have been sold? – Craig W May 18 '13 at 23:01
  • @CraigW its possible, and then it will appear on your W2, but even if they don't and it doesn't - you're still liable for the taxes. – littleadv May 19 '13 at 1:16
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There are two kinds of ESPP plans.

In qualified plans, you are not taxed until you sell the stock. In nonqualified plans, you are tasked on the discount at the time you get the shares, and then after that you are taxed as any other stock purchase is taxed. Your basis is the non-discounted price.

In my experience, employers do withhold taxes on nonqualified plans, but you should check with your payroll department to be sure.

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Since this will be a disqualifying disposition, your employer will report the 15% discount to the irs as compensation on your w2. according to the irs, your employer should withhold taxes (including fica) on the 15% discount, but they probably shouldn't (and almost certainly won't) withhold taxes for the capital gain or loss. Although, if you sell your shares immediately then that gain or loss should be negligible. As always, you can email HR, or just try it and see if there is an increase in withholding on your next paycheck. keep in mind that payroll departments make mistakes all the time, and this particular irs regulation has changed several times over the years. regardless of how payroll handles this, you can always request additional withholding towards the end of the year to avoid an underpayment penalty by updating your W-4 either with fewer "allowances" or with a specific additional dollar amount. this is particularly useful if you have other income such as consulting or capital gains.

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    In my case my employer did not withhold anything on the discount or the sale. – Craig W Apr 12 '17 at 11:33
  • @CraigW perhaps that was because your sale was a qualifying disposition? – james turner Apr 13 '17 at 17:28
  • Nope, I sold immediately upon receiving the shares. – Craig W Apr 13 '17 at 17:57
  • @CraigW apparently the irs rulings on this have changed over the years. i have updated my answer with a link to an article discussing the evolution of their policy. – james turner Apr 13 '17 at 21:26

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