Form 3921 is used to report the exercise of Incentive Stock Options (ISOs). When an employee exercises options, the employer must file this form with the IRS and provide a copy to the employee. While no immediate tax may be due at the time of exercise, Form 3921 helps establish the details needed for future tax reporting.
This case scenario shows how the process works and explains the tax implications for both the employee and the employer.
Case Scenario: Sarah’s Stock Option Exercise
Sarah Lee, a software developer at Tech Innovations Inc., exercised her Incentive Stock Options (ISOs) granted five years ago. She purchased 500 shares at an exercise price of $10 per share, while the stock’s fair market value on the exercise date was $50 per share.
Although Sarah has not yet sold her shares, Tech Innovations must still report the exercise to the IRS by filing Form 3921 and giving her a copy.
Form 3921 Box Details
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Box 1 – Date of Exercise: March 15, 20XX
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Box 2 – Exercise Price Per Share: $10
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Box 3 – Fair Market Value on Exercise Date: $50 per share
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Box 4 – Number of Shares Transferred: 500
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Box 5 – Transfer Date: Blank (no sales yet)
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Box 6 – Employer Information: Tech Innovations Inc.
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Box 7 – Employee TIN: Sarah’s Social Security Number (SSN)
Tax Implications for Sarah
At Exercise
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No immediate income tax liability, since Sarah has not sold the shares.
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The exercise starts the holding period for determining long-term capital gains.
Holding Period Rules
To qualify for long-term capital gains treatment, Sarah must:
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Hold the shares for at least one year from the exercise date.
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Hold the shares for at least two years from the grant date.
At Future Sale
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If Sarah sells after meeting the holding requirements, any gain will be taxed as long-term capital gains, usually at a lower rate.
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If she sells early, the profit will be taxed as ordinary income, based on the difference between the exercise price ($10) and the fair market value ($50) at the time of sale.
Reporting for Tech Innovations
Tech Innovations must file Form 3921 with both the IRS and Sarah. The form documents key details of the option exercise and establishes Sarah’s holding period.
If Sarah sells her shares later, Form 3921 will serve as a reference to calculate the correct tax treatment of her gains.
👉 Learn more about Form 3921 IRS software solutions for easy reporting.
Outcome for Sarah
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No immediate tax due at the time of exercise.
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A holding period begins, which determines whether future gains are taxed as long-term capital gains or ordinary income.
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Selling after the required holding period allows her to take advantage of favorable long-term capital gains rates.
Conclusion
Form 3921 incentive stock options reporting ensures both employers and employees stay compliant with IRS rules. While no taxes are owed at exercise, the form establishes the foundation for future tax treatment. For employees like Sarah, understanding these rules helps avoid surprises when shares are eventually sold.
Employers can simplify compliance by using 1099FIRE’s software to generate, print, and e-file Form 3921 with ease.