What Is the 83(b) Election?

What Is the 83(b) Election?

Let me explain the 83(b) election directly: it's a provision in the Internal Revenue Code that lets you, as an employee or startup founder, choose to pay taxes on the full fair market value of your restricted stock right when it's granted.

Key Takeaways

You should know that this election applies to equity subject to vesting, and it tells the IRS to tax you on the ownership at grant time, not when the stock vests. In short, you're opting to handle the tax upfront based on the current value.

How an 83(b) Election Works

Here's how it operates: the 83(b) election is for vesting equity, and it shifts your tax point from vesting to granting. Essentially, you're pre-paying taxes on a low valuation, betting that the equity will grow in value over time. But if the company's value drops steadily, you've overpaid by taxing at a higher initial value.

Normally, when you get equity as compensation, it's taxed on its fair market value at grant or transfer, minus any cost you paid, and you pay that tax in the year it happens. But with vesting over years, taxes hit at each vesting point, and if the value rises, so does your tax each year.

How to File an 83(b) Election

Filing is straightforward but time-sensitive. You need to create a document with your name, address, Social Security number, details on the shares, the award year, transfer date, restrictions, fair market value, amount paid, and the income to include. Sign and date it, then mail it to the IRS within 30 days of the shares being issued—postmark it by the next business day if the deadline falls on a weekend or holiday. Also, send a copy to your employer and include one with your tax return for that year.

Examples

Consider this scenario with the election: suppose you're a co-founder granted 1 million shares at $0.001 each, worth $1,000 total, vesting over five years. Without the election, you'd pay taxes on the increasing value each year as shares vest—for example, if the company hits $100,000 value in year one, your tax on that year's portion might be around $1,800, escalating in later years.

Without the election, you'd pay on the full vested value at the end, potentially $2 million at $2 per share, taxed as ordinary income minus your initial $1,000, at high rates.

Important Note

Remember, for restricted stock, file within 30 days of receiving shares; for options, within 30 days of exercising.

83(b) Election Tax Strategy

This strategy lets you pay taxes upfront on the equity before vesting begins, based on fair market value minus exercise cost—often zero gain if values match. You're reporting the difference as income now, so future vesting doesn't trigger more taxes, though capital gains apply on sale. It makes sense if you're confident in value growth and the initial income reported is low. But if value drops or the company fails, you've overpaid with no refund, or if you leave early, you've taxed unreceived shares.

Benefits of 83(b) Election

Opting in means taxing at grant value, often lower, saving if appreciation happens, with future gains at capital rates. You might even deduct losses if value falls before vesting, giving some flexibility.

When Is It Beneficial to File 83(b) Election?

File if you expect the stock to rise in value and the grant-time income is small—it's about pre-paying on low value for long-term savings.

What Happens if You Don't Make an 83(b) Election?

Without it, you're taxed on vesting value as ordinary income, potentially higher, with appreciation taxed as capital gains on sale, which might not be as favorable.

When Is It Detrimental to File an 83(b) Election?

It's a bad move if value falls or the company goes bankrupt—you overpay with no refund. Or if you leave before vesting, you've paid on shares you never get, especially if grant income was high.

What Is Profits Interest?

Profits interest is an equity right in a partnership's future value, given for services without capital contribution—it's like equity comp for startups, often requiring an 83(b) election.

The Bottom Line

In essence, the 83(b) election lets you tax stock at grant instead of vesting, which is great for startup folks with restricted stock or options, reducing long-term taxes if values rise. Note the correction: tax is on fair market value minus exercise price, not just exercise cost.