Title 26 — Internal Revenue CodeRelease 119-73not60
§423 Employee Stock Purchase Plans
Title 26 › Subtitle Subtitle A— Income Taxes › Chapter 1— NORMAL TAXES AND SURTAXES › Subchapter D— Deferred Compensation, Etc. › Part II— CERTAIN STOCK OPTIONS › § 423
Summary
Lets a worker get the special tax treatment in section 421 when they buy company stock through an employee stock purchase plan, but only if two rules are met: the worker does not sell the share within 2 years after the option was granted and does not sell within 1 year after they get the share, and the worker stays an employee from the date the option is granted until three months before they exercise it. This applies to options from the employer, its parent or subsidiary, or in certain transfers where another company issues or assumes the option. An "employee stock purchase plan" here means a plan that meets several rules. Key rules are: options are only for employees of the company or its parent/subsidiary; stockholders approve the plan within 12 months before or after it starts; people who would own 5% or more right after grant cannot get options; the plan must be offered broadly to employees, though it can exclude those employed less than 2 years, who work 20 hours or less a week, who work 5 months or less a year, or who are highly compensated; all option-holders get the same rights though purchase limits can be tied to pay or a set cap; the option price must be at least the lesser of 85% of fair market value at grant or 85% of fair market value at exercise; exercise deadlines are 5 years or 27 months depending on price rules; no one can accrue rights to buy more than $25,000 of stock (by FMV at grant) per calendar year under all such plans; and options can’t be transferred except by will or inheritance and can be exercised only by the holder while alive. If the option price was below 100% of fair market value at grant, and the holding rules above are met or the owner dies while owning the share, the owner must report as ordinary pay the smaller of (1) the gain at sale or death over what they paid, or (2) the difference between fair market value at grant and the option price. If an election is made under section 83(i) for the stock from the option, that option is not treated as part of an employee stock purchase plan.
Full Legal Text
Title 26, §423
Internal Revenue Code — Source: USLM XML via OLRC
(a)section 421(a) shall apply with respect to the transfer of a share of stock to an individual pursuant to his exercise of an option granted under an employee stock purchase plan (as defined in subsection (b)) if—
(1)no disposition of such share is made by him within 2 years after the date of the granting of the option nor within 1 year after the transfer of such share to him; and
(2)at all times during the period beginning with the date of the granting of the option and ending on the day 3 months before the date of such exercise, he is an employee of the corporation granting such option, a parent or subsidiary corporation of such corporation, or a corporation or a parent or subsidiary corporation of such corporation issuing or assuming a stock option in a transaction to which section 424(a) applies.
(b)For purposes of this part, the term “employee stock purchase plan” means a plan which meets the following requirements:
(1)the plan provides that options are to be granted only to employees of the employer corporation or of its parent or subsidiary corporation to purchase stock in any such corporation;
(2)such plan is approved by the stockholders of the granting corporation within 12 months before or after the date such plan is adopted;
(3)under the terms of the plan, no employee can be granted an option if such employee, immediately after the option is granted, owns stock possessing 5 percent or more of the total combined voting power or value of all classes of stock of the employer corporation or of its parent or subsidiary corporation. For purposes of this paragraph, the rules of section 424(d) shall apply in determining the stock ownership of an individual, and stock which the employee may purchase under outstanding options shall be treated as stock owned by the employee;
(4)under the terms of the plan, options are to be granted to all employees of any corporation whose employees are granted any of such options by reason of their employment by such corporation, except that there may be excluded—
(A)employees who have been employed less than 2 years,
(B)employees whose customary employment is 20 hours or less per week,
(C)employees whose customary employment is for not more than 5 months in any calendar year, and
(D)highly compensated employees (within the meaning of section 414(q));
(5)under the terms of the plan, all employees granted such options shall have the same rights and privileges, except that the amount of stock which may be purchased by any employee under such option may bear a uniform relationship to the total compensation, or the basic or regular rate of compensation, of employees, the plan may provide that no employee may purchase more than a maximum amount of stock fixed under the plan, and the rules of section 83(i) shall apply in determining which employees have a right to make an election under such section;
(6)under the terms of the plan, the option price is not less than the lesser of—
(A)an amount equal to 85 percent of the fair market value of the stock at the time such option is granted, or
(B)an amount which under the terms of the option may not be less than 85 percent of the fair market value of the stock at the time such option is exercised;
(7)under the terms of the plan, such option cannot be exercised after the expiration of—
(A)5 years from the date such option is granted if, under the terms of such plan, the option price is to be not less than 85 percent of the fair market value of such stock at the time of the exercise of the option, or
(B)27 months from the date such option is granted, if the option price is not determinable in the manner described in subparagraph (A);
(8)under the terms of the plan, no employee may be granted an option which permits his rights to purchase stock under all such plans of his employer corporation and its parent and subsidiary corporations to accrue at a rate which exceeds $25,000 of fair market value of such stock (determined at the time such option is granted) for each calendar year in which such option is outstanding at any time. For purposes of this paragraph—
(A)the right to purchase stock under an option accrues when the option (or any portion thereof) first becomes exercisable during the calendar year;
(B)the right to purchase stock under an option accrues at the rate provided in the option, but in no case may such rate exceed $25,000 of fair market value of such stock (determined at the time such option is granted) for any one calendar year; and
(C)a right to purchase stock which has accrued under one option granted pursuant to the plan may not be carried over to any other option; and
(9)under the terms of the plan, such option is not transferable by such individual otherwise than by will or the laws of descent and distribution, and is exercisable, during his lifetime, only by him.
(c)If the option price of a share of stock acquired by an individual pursuant to a transfer to which subsection (a) applies was less than 100 percent of the fair market value of such share at the time such option was granted, then, in the event of any disposition of such share by him which meets the holding period requirements of subsection (a), or in the event of his death (whenever occurring) while owning such share, there shall be included as compensation (and not as gain upon the sale or exchange of a capital asset) in his gross income, for the taxable year in which falls the date of such disposition or for the taxable year closing with his death, whichever applies, an amount equal to the lesser of—
(1)the excess of the fair market value of the share at the time of such disposition or death over the amount paid for the share under the option, or
(2)the excess of the fair market value of the share at the time the option was granted over the option price.
(d)An option for which an election is made under section 83(i) with respect to the stock received in connection with its exercise shall not be considered as granted pursuant an employee stock purchase plan.
Legislative History
Notes & Related Subsidiaries
Editorial Notes
Amendments
2017—Subsec. (b)(5). Pub. L. 115–97, § 13603(c)(1)(B)(i), struck out “and” before “the plan may provide” and inserted “, and the rules of section 83(i) shall apply in determining which employees have a right to make an election under such section” before semicolon at end. Subsec. (d). Pub. L. 115–97, § 13603(c)(1)(B)(ii), added subsec. (d). 2014—Subsec. (a). Pub. L. 113–295 struck out “after
December 31, 1963,” after “option granted” in introductory provisions. 2004—Subsec. (c). Pub. L. 108–357 inserted at end of concluding provisions “No amount shall be required to be deducted and withheld under chapter 24 with respect to any amount treated as compensation under this subsection.” 1990—Subsec. (a). Pub. L. 101–508, § 11801(c)(9)(D)(i), struck out “(other than a restricted stock option granted pursuant to a plan described in section 424(c)(3)(B))” after “
December 31, 1963”. Subsec. (a)(2). Pub. L. 101–508, § 11801(c)(9)(D)(ii), substituted “424(a)” for “425(a)”. Subsec. (b)(3). Pub. L. 101–508, § 11801(c)(9)(E), substituted “424(d)” for “425(d)”. 1986—Subsec. (b)(4)(D). Pub. L. 99–514 substituted “highly compensated employees (within the meaning of section 414(q))” for “officers, persons whose principal duties consist of supervising the work of other employees, or highly compensated employees”. 1984—Subsec. (a)(1). Pub. L. 98–369 substituted “6 months” for “1 year”, applicable to property acquired after
June 22, 1984, and before Jan. 1, 1988. See
Effective Date
of 1984 Amendment note below. 1976—Subsec. (a)(1). Pub. L. 94–455, § 1402(b)(2), provided that “9 months” would be changed to “1 year”. Pub. L. 94–455, § 1402(b)(1)(E), provided that “6 months” would be changed to “9 months” for taxable years beginning in 1977.
Statutory Notes and Related Subsidiaries
Effective Date
of 2017 AmendmentAmendment by Pub. L. 115–97 applicable to stock attributable to options exercised, or restricted stock units settled, after Dec. 31, 2017, see section 13603(f)(1) of Pub. L. 115–97, set out as a note under section 83 of this title.
Effective Date
of 2014 AmendmentAmendment by Pub. L. 113–295 effective Dec. 19, 2014, subject to a
Savings Provision
, see section 221(b) of Pub. L. 113–295, set out as a note under section 1 of this title.
Effective Date
of 2004 AmendmentAmendment by Pub. L. 108–357 applicable to stock acquired pursuant to options exercised after Oct. 22, 2004, see section 251(d) of Pub. L. 108–357, set out as a note under section 421 of this title.
Effective Date
of 1986 AmendmentAmendment by Pub. L. 99–514 applicable to years beginning after Dec. 31, 1986, see section 1114(c)(1) of Pub. L. 99–514, set out as a note under section 414 of this title.
Effective Date
of 1984 AmendmentAmendment by Pub. L. 98–369 applicable to property acquired after June 22, 1984, and before Jan. 1, 1988, see section 1001(e) of Pub. L. 98–369, set out as a note under section 166 of this title.
Effective Date
of 1976 Amendment Pub. L. 94–455, title XIV, § 1402(b)(1), Oct. 4, 1976, 90 Stat. 1731, provided that the amendment made by that section is effective with respect to taxable years beginning in 1977. Pub. L. 94–455, title XIV, § 1402(b)(2), Oct. 4, 1976, 90 Stat. 1732, provided that the amendment made by that section is effective with respect to taxable years beginning after Dec. 31, 1977.
Effective Date
Section applicable to taxable years ending after Dec. 31, 1963, see section 221(e) of Pub. L. 88–272, set out as an
Effective Date
of 1964 Amendment note under section 421 of this title.
Regulations
Secretary of the Treasury or his delegate to issue before Feb. 1, 1988, final
Regulations
to carry out
Amendments
made by section 1114 of Pub. L. 99–514, see section 1141 of Pub. L. 99–514, set out as a note under section 401 of this title.
Savings Provision
For provisions that nothing in amendment by Pub. L. 101–508 be construed to affect treatment of certain transactions occurring, property acquired, or items of income, loss, deduction, or credit taken into account prior to Nov. 5, 1990, for purposes of determining liability for tax for periods ending after Nov. 5, 1990, see section 11821(b) of Pub. L. 101–508, set out as a note under section 45K of this title. Plan
Amendments
Not Required Until January 1, 1989For provisions directing that if any
Amendments
made by subtitle A or subtitle C of title XI [§§ 1101–1147 and 1171–1177] or title XVIII [§§ 1800–1899A] of Pub. L. 99–514 require an amendment to any plan, such plan amendment shall not be required to be made before the first plan year beginning on or after Jan. 1, 1989, see section 1140 of Pub. L. 99–514, as amended, set out as a note under section 401 of this title.
Reference
Citations & Metadata
Citation
26 U.S.C. § 423
Title 26 — Internal Revenue Code
Last Updated
Apr 5, 2026
Release point: 119-73not60