Selling Company Stock? Make Sure Your 1099-B Does Not Cause You to Pay Tax Twice

If you receive company stock as part of your compensation, selling those shares can create a tax situation that is more complicated than it initially appears. Whether you receive restricted stock units, exercise stock options, participate in an employee stock purchase plan, or accumulate company shares in another way, the eventual sale of those shares will generally be reported to you and the IRS on Form 1099-B. At first glance, this may seem like a relatively straightforward part of your tax return. Your brokerage firm provides the sale proceeds (and in many cases, the cost basis of the shares), so it would be natural to assume that you can simply enter those numbers into your tax software and move on. However, when the shares originated through an equity compensation plan, the cost basis reported on Form 1099-B may not tell the entire story. If you do not understand how your basis should be calculated, you could end up reporting more capital gain than you actually earned. This would cause you to end up paying taxes twice on the same income.

The reason this issue occurs is that company stock compensation is often taxed at more than one point in time. For example, when an RSU vests or a nonqualified stock option is exercised, part of the value of the shares may already be included in your taxable compensation and reported on your Form W-2. So, you have already paid ordinary income tax on that amount, even if you continue holding the shares after they are delivered to you. Later, when you sell the stock, your gain or loss should reflect the change in value that occurred after you acquired the shares, not the entire value of the shares themselves. The problem is that the basis reported by your broker may not include the compensation income that was previously reported on your W-2. If you rely entirely on the number shown on your Form 1099-B without making the appropriate adjustment, you may accidentally include that same income in your taxable income for a second time.

Understanding Why Cost Basis Is So Important

Cost basis is one of the most important numbers involved when reporting the sale of an investment. In its simplest form, your taxable gain or loss is determined by comparing what you received when you sold an investment with what it cost you to acquire it. For example, if you purchased $10,000 worth of stock and later sold it for $15,000, you would have a $5,000 gain. With company stock, however, determining what the shares actually cost you for tax purposes can be more complicated because your basis may include more than just the cash that came out of your pocket.

In many situations involving equity compensation, your basis includes both the amount you paid to acquire the shares and the amount that was previously recognized as compensation income. This distinction is important because the compensation component may already have been included on your Form W-2 and taxed as ordinary income. If that previously taxed amount is not reflected in your basis when the shares are eventually sold, the gain reported on your tax return will be larger than it should be.

Consider a simple example involving nonqualified stock options. Assume you have the right to purchase company stock for $15 per share, and you decide to exercise those options when the market value of the stock is $25 per share. The $10 difference between the exercise price and the market value is generally taxable compensation income. If you exercised options for 100 shares, you would have paid $1,500 to acquire the shares, but you would also recognize $1,000 of ordinary income because the shares were worth $2,500 at the time of exercise.

That $1,000 does not disappear after you exercise the options. It becomes part of the tax history of those shares. If you later sell the stock for $30 per share, your sale proceeds would be $3,000. If you looked only at the $1,500 you paid to exercise the options, it might appear that you earned a $1,500 capital gain. In reality, however, $1,000 of the value of those shares was already included in your taxable income when you exercised the options. Your basis is therefore generally $2,500, which reflects the $1,500 you paid plus the $1,000 that was already taxed as compensation. When you sell the shares for $3,000, your actual capital gain is $500. Reporting a $1,500 capital gain would mean that the same $1,000 of income was effectively included in your taxable income twice.

Why RSUs Can Create the Same Problem

Restricted stock units can create an even more confusing version of this issue because there is often no purchase price associated with the shares. When an RSU vests, the value of the shares that you receive is generally included as ordinary income on your Form W-2. Assume that you receive 100 shares when the stock is trading at $25 per share. The $2,500 value of those shares is generally included in your taxable compensation for the year, even though you may decide to keep the shares rather than immediately sell them.

If you later sell those same shares for $30 each, you receive $3,000 in sale proceeds. From an economic standpoint, your gain since the shares vested is only $500 because the shares were already worth $2,500 when they became taxable compensation. However, if your Form 1099-B does not report the $2,500 basis and you simply report the entire $3,000 as a capital gain, you would be overstating your taxable income. The $2,500 value of the shares was already included in your W-2, and the only new gain that occurred after you acquired the shares was the additional $500 increase in value.

This is where many employees get into trouble, because their Form 1099-B can look completely legitimate. The sale proceeds, number of shares sold, and dates are correct. Yet the basis information may be incomplete because it does not include the compensation income that was previously reported through payroll. The form is providing information about the transaction, but it may not be providing the complete picture necessary to determine your actual taxable gain.

Why Form 1099-B May Not Show Your Full Basis

The obvious question is why the brokerage firm does not report the full basis of the shares and eliminate the problem. Unfortunately, broker reporting rules do not always require the compensation component of your basis to be included in the information reported to the IRS. Depending on the type of equity compensation involved and how the shares were acquired, the brokerage firm may report only the amount that you actually paid to purchase the shares. In the case of a nonqualified stock option, that may mean the exercise price. In the case of an employee stock purchase plan, it may mean the purchase price. With RSUs or restricted stock, where you may not have paid anything directly to acquire the shares, the basis information may be missing entirely.

This does not necessarily mean that your brokerage firm has made a mistake. It also does not necessarily mean that the number shown on your Form 1099-B is your actual basis for tax purposes. Instead, it means that you need to understand exactly what the reported number represents and whether compensation income related to the shares was already included elsewhere on your tax return.

This is one of the reasons company stock requires more attention at tax time than a traditional investment account. If you purchased shares directly in a brokerage account with your own money, the basis calculation may be relatively simple. With equity compensation, you need to consider the entire history of the shares, including when they vested or were exercised, what their value was at that time, and whether that value was already included in your taxable income.

Form 8949 Is Often Where the Difference Is Corrected

When securities are sold, the transactions are generally reported on Form 8949 and then summarized on Schedule D. Form 8949 provides the detailed reporting of individual sales, including the proceeds, cost basis, and any adjustments that may be necessary. This becomes particularly important when the basis reported on Form 1099-B does not fully reflect the amount that should be used to calculate your taxable gain or loss.

The way the transaction is reported can depend on whether the basis information was reported to the IRS and whether the basis was blank or simply too low. If the brokerage firm reported an incomplete basis to the IRS, the transaction generally needs to be reported in a way that reconciles the information received by the IRS while also adjusting the gain or loss to reflect the correct tax result. When no basis was reported to the IRS, the reporting may be handled differently.

The important takeaway is that the solution is not simply to ignore the Form 1099-B. Because the IRS has also received information about the sale, your tax return should properly account for the numbers that were reported while also making any necessary adjustments. This is why simply importing your brokerage information into tax software without reviewing the details can create problems. The software may accurately import the information it receives, but it cannot always determine whether part of your basis was already taxed as compensation and should be reflected elsewhere in the transaction.

Multiple Lots Can Make the Analysis More Complicated

Reporting becomes more complicated if you accumulated company stock over several years. You may own shares from multiple RSU vesting dates, stock option exercises, employee stock purchase plan purchases, and shares that you purchased separately in the open market. Each group of shares may have a different acquisition date, a different cost basis, and potentially different tax consequences.

When you sell shares, your brokerage account may use a default method to determine which shares were sold. One common method is first in, first out, meaning that your oldest shares are treated as the shares that were sold first. However, that may not always produce the best tax result. You may want to sell shares with a higher basis to reduce your current capital gain, or select a specific group of shares based on their holding period or other tax considerations.

This becomes important when you own shares acquired through incentive stock options or an employee stock purchase plan. Those can have additional holding period requirements and tax consequences that should be considered before deciding which shares to sell. Choosing a specific lot of shares is not always just a question of determining whether the sale produces a larger or smaller capital gain. Depending on how the shares were acquired, the decision could also affect the character of the income and whether additional compensation income is triggered.

What You Should Review Before Filing

If you sold company stock during the year, gather all of the relevant information before filing your tax return. Your Form 1099-B is an important starting point, but it should not be the only document you review. You should also look at your Form W-2, your stock plan records, and any statements showing when the shares vested or when an option was exercised.

The goal is to understand the complete history of the shares that were sold. You want to know how the shares were acquired, what they were worth at the time you acquired them, whether that value was already included in your taxable compensation, and what basis was ultimately reported on your Form 1099-B. Once you have that information, you can determine whether the gain shown on the brokerage statement accurately reflects the increase in value that occurred after you acquired the shares.

If the basis shown on your Form 1099-B appears low, you should not automatically assume it’s an error. However, it should prompt you to investigate further. The key question is whether part of the value of those shares was already included in your taxable income through your Form W-2. If it was, you need to make sure that amount is not being taxed again as capital gain when the shares are sold.

Often, the custodian provides a supplemental tax form which properly displays the ordinary income tax adjustment to be added onto your basis. It is extremely important to obtain this when preparing your tax return.

Before filing your return, take the time to understand where your shares came from, what income was already reported on your W-2, what basis was reported on Form 1099-B, and whether an adjustment is necessary when reporting the sale on Form 8949. When significant amounts of company stock are involved, a careful review can make a meaningful difference in the amount of tax you ultimately pay.

The Bottom Line

Company stock can be an extremely valuable part of your compensation package, but the tax reporting associated with selling those shares can be more complicated than expected. One of the biggest mistakes is assuming that the information reported on Form 1099-B automatically represents the complete answer for your tax return. In many situations involving RSUs, stock options, and employee stock purchase plans, part of the value of the shares was already included in your ordinary income before you ever sold the stock.

If that previously taxed amount is not properly reflected in the basis used to calculate your gain or loss, you could overstate your capital gain and pay more tax than necessary. The purpose of reviewing these transactions carefully is not to disregard the information reported to the IRS. Instead, it is to make sure that your tax return properly reflects the entire transaction, including both the compensation income that was recognized when you acquired the shares and the investment gain or loss that occurred afterward.

The most costly tax mistakes are not always caused by complicated strategies or obscure provisions in the tax code. Sometimes they happen because a number on a tax form appears straightforward enough that nobody stops to ask whether it tells the entire story.

When you sell company stock that was acquired through an equity compensation plan, understanding your cost basis and how the transaction should be reported can help ensure that income you have already paid tax on does not become taxable all over again.

I have made videos of tax reporting for RSUs and NQSOs using real life client examples. If these are of interest to you, please reach out and I am happy to have these sent to you.

This material is purely intended to be general and educational in nature, and should not be construed as specifically-tailored investment, financial planning, tax, legal, or other professional advice. Information and data contained herein is as-of the date of publication, and may be subject to change in the future without notice. Any investment performance referenced is purely past performance, which is no guarantee of any future performance. Nothing contained herein should be construed as an offer to sell, a solicitation of an offer to buy, or a recommendation of any security or other financial product or investment strategy. All investment, tax, and financial planning strategies involve risk that you should be prepared to bear. You are highly encouraged to consult with professionals of your choosing before taking any action based on this material.