[Federal Register Volume 79, Number 38 (Wednesday, February 26, 2014)]
[Rules and Regulations]
[Pages 10663-10665]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2014-03988]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[TD 9659]
RIN 1545-BJ15
Property Transferred in Connection With the Performance of
Services Under Section 83
AGENCY: Internal Revenue Service, Department of the Treasury.
ACTION: Final regulations.
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SUMMARY: This document contains final regulations relating to property
transferred in connection with the performance of services under
section 83 of the Internal Revenue Code (Code). These final regulations
affect certain taxpayers who receive property transferred in connection
with the performance of services.
DATES:
Effective Date: These regulations are effective on February 26,
2014.
Applicability Date: For dates of applicability, see Sec. 1.83-
3(l).
FOR FURTHER INFORMATION CONTACT: Thomas Scholz or Michael Hughes at
(202) 317-5600 (not a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
On May 30, 2012, the Department of Treasury (Treasury) and the
Internal Revenue Service (IRS) published a notice of proposed
rulemaking (REG-141075-09) in the Federal Register (77 FR 31783) under
section 83 of the Code. Treasury and the IRS received two comments
responding to the notice of proposed rulemaking. No public hearing was
requested and no public hearing was held. After consideration of these
comments, Treasury and the IRS adopt the proposed regulations as final
regulations with the modifications described in this preamble.
Explanation of Provisions
Section 83 of the Code addresses the tax consequences of the
transfer of property in connection with the performance of services.
These final regulations provide several clarifications regarding
whether a substantial risk of forfeiture exists in connection with
property subject to section 83. Specifically, the final regulations
clarify that (1) except as specifically provided in section 83(c)(3)
and Sec. Sec. 1.83-3(j) and (k), a substantial risk of forfeiture may
be established only through a service condition or a condition related
to the purpose of the transfer, (2) in determining whether a
substantial risk of forfeiture exists based on a condition related to
the purpose of the transfer, both the likelihood that the forfeiture
event will occur and the likelihood that the forfeiture will be
enforced must be considered, and (3) except as specifically provided in
section 83(c)(3) and Sec. Sec. 1.83-3(j) and (k), transfer
restrictions do not create a substantial risk of forfeiture, including
transfer restrictions that carry the potential for forfeiture or
disgorgement of some or all of the property, or other penalties, if the
restriction is violated.
Summary of Comments
Treasury and the IRS received two written comments on the notice of
proposed rulemaking. The first comment was not responsive to the notice
of proposed rulemaking. The second comment expressed concern that the
proposed regulations result in a narrowing of the circumstances that
would establish a substantial risk of forfeiture and requested
clarification regarding whether an involuntary separation from service
without cause could establish a substantial risk of forfeiture. The
comment noted that, for purposes of section 409A, an amount that is
payable only upon a service provider's involuntary separation from
service without cause is subject to a substantial risk of forfeiture if
the possibility of forfeiture is substantial, and it suggested that
these regulations specifically state that an involuntary separation
without cause may qualify as a substantial risk of forfeiture under
section 83 in appropriate circumstances.
These regulations are intended to clarify the definition of a
substantial risk of forfeiture and are consistent with the
interpretation that the IRS historically has applied, and therefore
from the perspective of Treasury and the IRS they do not constitute a
narrowing of the requirements to establish a substantial risk of
forfeiture. See Robinson v. Commissioner, 805 F.2d 38 (1st Cir. 1986).
Further, Treasury and the IRS believe that these regulations should not
be modified to state that an involuntary separation from service
without cause may qualify as a substantial risk of forfeiture under
section 83. While a service provider's right to receive property (or an
amount in cash) in the future upon the service provider's involuntary
separation from service without cause may be subject to a substantial
risk of forfeiture for purposes of section 409A if the possibility of
forfeiture is substantial, a substantial risk of forfeiture under
section 83 can exist only when property is actually transferred in
connection with the performance of services. A right to receive
property in the future is generally not property for purposes of
section 83. See Sec. 1.83-3(e). Accordingly, an involuntary separation
from service without cause cannot qualify as a substantial risk of
forfeiture under section 83 if property is not transferred until after
the separation from service occurs.
When a transfer of property does occur, a substantial risk of
forfeiture may be established through a substantial services condition
or a condition related to the purpose of the transfer if the
possibility of forfeiture is substantial. The acceleration of vesting
upon an involuntary separation from service without cause (or
separation from service as a result of death or disability) will not
cause a requirement of substantial services that otherwise would be
treated as a substantial risk of forfeiture to fail to qualify as a
substantial risk of forfeiture, provided that facts and circumstances
do not demonstrate that the occurrence of an involuntary separation
from service without cause is likely to occur during the agreed upon
service period.
Certain practitioners informally requested clarification regarding
the application of section 83(c)(3) to a variation of the facts set
forth in Example 4 of proposed regulation Sec. 1.83-3(j)(2).
Specifically, practitioners asked whether the purchase of shares in a
transaction not exempt from section 16(b) of the Securities Exchange
Act of 1934 prior to the exercise of a stock option that would not
otherwise give rise to section 16(b) liability would defer taxation of
the stock option exercise. Treasury and the IRS do not
[[Page 10664]]
believe that such a non-exempt purchase of shares would defer taxation
of the subsequent stock option exercise. This result is consistent with
Example 3 of Sec. 1.83-3(j)(2). In response to these requests for
clarification, Treasury and the IRS have revised Example 4 of proposed
regulation Sec. 1.83-3(j)(2) to address the situation raised.
Applicability Date
These regulations apply to property transferred on or after January
1, 2013.
Effect on Other Documents
Rev. Rul. 2005-48 (2005-2 CB 259) is obsolete as of February 26,
2014.
Special Analyses
It has been determined that this final regulation is not a
significant regulatory action as defined in Executive Order 12866, as
supplemented by Executive Order 13653. Therefore, a regulatory
assessment is not required. It also has been determined that section
553(b) of the Administrative Procedure Act (5 U.S.C. chapter 5) does
not apply to these regulations, and because the regulations do not
impose a collection of information on small entities, the Regulatory
Flexibility Act (5 U.S.C. chapter 6) does not apply. Pursuant to
section 7805(f) of the Code, the notice of proposed rule making
preceding these final regulations was submitted to the Chief Counsel
for Advocacy of the Small Business Administration for comment on their
impact on small business.
Drafting Information
The principal authors of these final regulations are Thomas Scholz
and Michael Hughes, Office of the Division Counsel/Associate Chief
Counsel (Tax Exempt and Government Entities). Other personnel from
Treasury and the IRS also participated in their development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Adoption of Amendments to the Regulations
Accordingly, 26 CFR Part 1 is amended as follows:
PART 1--INCOME TAXES
0
Paragraph 1. The authority citation for Part 1 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
0
Par. 2. Section 1.83-3 is amended by:
0
1. Revising paragraph (c)(1).
0
2. Adding Example 6 and Example 7 to paragraph (c)(4).
0
3. Adding Example 4 to paragraph (j)(2).
0
4. Removing paragraph (j)(3).
0
5. Removing paragraph (k).
0
6. Redesignating paragraph (k)(1) as paragraph (k).
0
7. Adding paragraph (l).
The revisions and additions read as follows:
Sec. 1.83-3 Meaning and use of certain terms.
* * * * *
(c) Substantial risk of forfeiture. (1) In general. For purposes of
section 83 and these regulations, whether a risk of forfeiture is
substantial or not depends upon the facts and circumstances. Except as
set forth in paragraphs (j) and (k) of this section, a substantial risk
of forfeiture exists only if rights in property that are transferred
are conditioned, directly or indirectly, upon the future performance
(or refraining from performance) of substantial services by any person,
or upon the occurrence of a condition related to a purpose of the
transfer if the possibility of forfeiture is substantial. Property is
not transferred subject to a substantial risk of forfeiture if at the
time of transfer the facts and circumstances demonstrate that the
forfeiture condition is unlikely to be enforced. Further, property is
not transferred subject to a substantial risk of forfeiture to the
extent that the employer is required to pay the fair market value of a
portion of such property to the employee upon the return of such
property. The risk that the value of property will decline during a
certain period of time does not constitute a substantial risk of
forfeiture. A nonlapse restriction, standing by itself, will not result
in a substantial risk of forfeiture. A restriction on the transfer of
property, whether contractual or by operation of applicable law, will
result in a substantial risk of forfeiture only if and to the extent
that the restriction is described in paragraph (j) or (k) of this
section. For this purpose, transfer restrictions that will not result
in a substantial risk of forfeiture include, but are not limited to,
restrictions that if violated, whether by transfer or attempted
transfer of the property, would result in the forfeiture of some or all
of the property, or liability by the employee for any damages,
penalties, fees, or other amount.
* * * * *
(4) * * *
Example 6. On April 3, 2013, Y corporation grants to Q, an
officer of Y, a nonstatutory option to purchase Y common stock.
Although the option is immediately exercisable, it has no readily
ascertainable fair market value when it is granted. Under the
option, Q has the right to purchase 100 shares of Y common stock for
$10 per share, which is the fair market value of a Y share on the
date of grant of the option. On August 1, 2013, Y sells its common
stock in an initial public offering. Pursuant to an underwriting
agreement entered into in connection with the initial public
offering, Q agrees not to sell, otherwise dispose of, or hedge any Y
common stock from August 1 through February 1 of 2014 (``the lock-up
period''). Q exercises the option and Y shares are transferred to Q
on November 15, 2013, during the lock-up period. The underwriting
agreement does not impose a substantial risk of forfeiture on the Y
shares acquired by Q because the provisions of the agreement do not
condition Q's rights in the shares upon anyone's future performance
(or refraining from performance) of substantial services or on the
occurrence of a condition related to the purpose of the transfer of
shares to Q. Accordingly, neither section 83(c)(3) nor the
imposition of the lock-up period by the underwriting agreement
precludes taxation under section 83 when the shares resulting from
exercise of the option are transferred to Q.
Example 7. Assume the same facts as in Example 6, except that on
August 1, 2013, Y also adopts an insider trading compliance program,
under which, as applied to 2013, insiders (such as Q) may trade Y
shares only during a limited number of days following each quarterly
earnings release (``a trading window''). Under the program, if Q
trades Y shares outside a trading window without Y's permission, Y
has the right to terminate Q's employment. However, the exercise of
the nonstatutory options outside a trading window for Y shares is
not prohibited under the insider trading compliance program. Q fully
exercises the option, and Y shares are transferred to Q, on November
15, 2013. The exercise of the option occurs outside a trading
window, and, on the date of exercise, Q is in possession of material
nonpublic information concerning Y that would subject him to
liability under Rule 10b-5 under the Securities Exchange Act of 1934
if Q sold the Y shares while in possession of such information.
Neither the insider trading compliance program nor the potential
liability under Rule 10b-5 impose a substantial risk of forfeiture
on the Y shares acquired by Q because the provisions of the program
and Rule 10b-5 do not condition Q's rights in the shares upon
anyone's future performance (or refraining from performance) of
substantial services or on the occurrence of a condition related to
the purpose of the transfer of shares to Q. Accordingly, none of
section 83(c)(3), the imposition of the trading windows by the
insider trading compliance program, and the potential liability
under Rule 10b-5 preclude taxation under section 83 when the shares
resulting from exercise of the option are transferred to Q.
* * * * *
(j) * * *
(2) * * *
Example 4. (i) On June 3, 2013, Y corporation grants to Q, an
officer of Y, a nonstatutory option to purchase Y common
[[Page 10665]]
stock. Y stock is traded on an established securities market.
Although the option is immediately exercisable, it has no readily
ascertainable fair market value when it is granted. Under the
option, Q has the right to purchase 100 shares of Y common stock for
$10 per share, which is the fair market value of a Y share on the
date of grant of the option. The grant of the option is not one that
satisfies the requirements for a transaction that is exempt from
section 16(b) of the Securities Exchange Act of 1934. On December
15, 2013, Y stock is trading at more than $10 per share. On that
date, Q fully exercises the option, paying the exercise price in
cash, and receives 100 Y shares. Q's rights in the shares received
as a result of the exercise are not conditioned upon the future
performance of substantial services. Because no exemption from
section 16(b) was available for the June 3, 2013 grant of the
option, the section 16(b) liability period expires on December 1,
2013. Accordingly, the section 16(b) liability period expires before
the date that Q exercises the option and the Y common stock is
transferred to Q. Thus, the shares acquired by Q pursuant to the
exercise of the option are not subject to a substantial risk of
forfeiture under section 83(c)(3) as a result of section 16(b). As a
result, section 83(c)(3) does not preclude taxation under section 83
when the shares acquired pursuant to the December 15, 2013 exercise
of the option are transferred to Q.
(ii) Assume the same facts as in paragraph (i) of this Example 4
except that Q exercises the nonstatutory option on October 30, 2013
when Y stock is trading at more than $10 per share. The shares
acquired are subject to a substantial risk of forfeiture under
section 83(c)(3) as a result of section 16(b) through December 1,
2013.
(iii) Assume the same facts as in paragraph (i) of this Example
4 except that on November 5, 2013, Q also purchases 100 shares of Y
common stock on the public market. The purchase of the shares is not
a transaction exempt from section 16(b) of the Securities Exchange
Act of 1934. Because no exemption from section 16(b) was available
for the November 5, 2013 purchase of shares, the section 16(b)
liability period with respect to such shares will last for a period
of six months after the November 5, 2013 purchase of shares.
Notwithstanding the non-exempt purchase of Y common stock on
November 5, 2013, the shares acquired by Q pursuant to the December
15, 2013 exercise of the option are not subject to a substantial
risk of forfeiture under section 83(c)(3) as a result of section
16(b). As a result, section 83(c)(3) does not preclude taxation
under section 83 when the shares acquired pursuant to the December
15, 2013 exercise of the option are transferred to Q.
* * * * *
(l) Effective/applicability date. This section applies to property
transferred on or after January 1, 2013. For rules relating to property
transferred before that date, see Sec. 1.83-3 as contained in 26 CFR
part 1 (as of April 1, 2012).
John Dalrymple,
Deputy Commissioner for Services and Enforcement.
Approved: January 31, 2014.
Mark J. Mazur,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2014-03988 Filed 2-25-14; 8:45 am]
BILLING CODE 4830-01-P