Our interaction with a client's investment advisor saved our client over $500,000 in potential stock market losses

Situation

While Cunningham cannot provide investment advice, we are, of course, current on complex tax laws and sound tax planning strategies to help minimize your tax liabilities. In addition, we are always looking out for your best financial interest. In this case, our client, who holds a mid-level position with a public company, had accumulated thousands of low priced stock options under $10 per share. Over a three year period these shares rose dramatically to approximately $75 per share in 2008.

The client had certain options that had to be exercised. We explained to our client that under the Income Tax Act ("ITA") the difference between what the option was issued at and the exercise price was taxable; subject to an offsetting deduction equal to 50% of the benefit. We also explained that the ITA provides for an election to defer the taxation of options or a portion of the options in certain cases. The client informed us that he felt that the stock price would go higher and was therefore reluctant to exercise and sell the stock, but thought it beneficial to exercise the stock options and defer the taxation of the stock option exercise.

Solution

We explained to the client that many taxpayers had deferred stock option benefits during the "dot com" crash - and when the dust had settled, many had huge income tax liabilities far in excess of the actual value of the stock they held. We recommended that he speak to his advisor as to whether it was prudent to exercise his current options and immediately sell the shares upon exercise. We felt this was a conservative course of action; although it triggered income tax of approximately 23%, it locked in his gains on his options, while he still had potential future growth with his new options. His investment advisor agreed with our suggestions and our client exercised and sold his options. Subsequently, when the market crashed in late 2008, the stock price sank back to almost the initial stock option price on some bad corporate news.

By being persistent in urging our client to discuss the situation with his advisor, our client was able to net out over $500,000 in after-tax cash and escape a situation where he would have owed $150,000 in income tax and held stock valued at around $50,000.