83(b) Election

Understanding the 83(b) Election: What Founders Need to Know

If you’ve received restricted stock or stock options from your startup, you may have heard about the 83(b) election. It’s a powerful but sometimes overlooked tax election that can significantly affect your financial outcomes as a founder or early employee. This guide explains what the 83(b) election is, why it matters, how to file it, and important considerations to keep in mind.

What Is an 83(b) Election?

The 83(b) election is a provision under Section 83(b) of the U.S. Internal Revenue Code that allows you to choose to be taxed on the fair market value (FMV) of your restricted stock at the time of grant, rather than when it vests.

Key Points:

  • Normally, when you receive restricted stock or stock subject to vesting, you’re taxed on the value when the stock vests (when you actually gain ownership rights).

  • By filing an 83(b) election within 30 days of receiving the stock, you can elect to pay tax immediately on the stock’s current value, even though it hasn’t vested yet.

  • This election is only available for restricted stock, not for stock options.

Why Does the 83(b) Election Matter?

1. Potentially Lower Tax Bill

When you receive stock early (often at or near zero value), paying tax immediately on that low value means:

  • You pay ordinary income tax on a minimal amount upfront.

  • All future gains in the stock value are treated as capital gains when you sell, which often have lower tax rates than ordinary income.

If you don’t file the election, you’ll pay ordinary income tax on the FMV at each vesting date, which can be much higher if your company grows quickly.

2. Starting the Capital Gains Holding Period Earlier

The 83(b) election starts the clock ticking on your capital gains holding period at the time of grant, rather than at vesting.

  • To qualify for favorable long-term capital gains tax rates, you generally need to hold the stock for more than one year.

  • Filing 83(b) early helps ensure your gains get taxed at this lower rate sooner.

3. Avoiding Surprises on Vesting

Without an 83(b) election, when your stock vests, the IRS views that as income based on the then-current FMV. If your startup’s valuation has increased, this could mean a much larger tax bill—and potentially a surprise cash burden if you don’t have liquidity.

Who Should Consider Filing an 83(b) Election?

  • Founders who receive restricted stock at or near the company’s founding, usually with a very low valuation.

  • Early employees granted restricted stock early in the company’s life.

  • People confident that the company’s stock value will increase over time.

What Are the Risks or Downsides?

  • You pay taxes upfront on stock that might never vest (if you leave the company early or the company fails). The tax paid is non-refundable.

  • If the stock value doesn’t increase, you might have paid tax unnecessarily early.

  • You must file the election within 30 days of the stock grant—there’s no extension.

How Do You File an 83(b) Election?

  • Prepare the 83(b) Election Form, which includes:

    • Your personal details (name, address, SSN)

    • Description of the property (number of shares, class of stock)

    • Date of grant and amount paid for the stock

    • Statement of the election to be taxed on the FMV as of the grant date

  • File with the IRS within 30 days of the stock grant date. Timing is strict—late filings are not accepted.

  • Send a copy to your employer (startup) and keep a copy for your records.

  • Attach a copy to your tax return for the year in which you made the election.

Example: Why Filing Early Pays Off

Suppose you’re a founder who receives 1,000,000 shares of restricted stock at $0.01 per share at founding. Without an 83(b):

  • You pay no tax now.

  • After 4 years, when the stock vests, the shares are worth $1.00 each. You owe ordinary income tax on $1,000,000.

With an 83(b) election:

  • You pay tax upfront on $10,000 (1,000,000 x $0.01), which is minimal.

  • All future gains are capital gains. If you sell after a year at $1.00 per share, you pay capital gains tax on $990,000 (which is usually lower than ordinary income tax).

Summary: Why Every Founder Should Understand 83(b)

  • The 83(b) election can save you a lot of money by reducing your tax burden.

  • It starts your capital gains holding period earlier.

  • It protects you from unexpected tax hits at vesting.

  • But it requires quick action and an understanding of risks.

Always consult a tax advisor when considering an 83(b) election to make sure it fits your personal tax situation.