In brief, how do nonqualified stock options and incentive stock options differ?
Companies in the United States can grant two types of stock options: nonqualified stock options (NQSOs), the more common type, and incentive stock options (ISOs), which offer some tax benefits but also raise the complexities of the alternative minimum tax (AMT). The table below summarizes and compares the major traits of NQSOs and ISOs.
|Option type||Eligibility||Event that triggers taxes||Taxes||Withholding?||Tax at sale|
|NQSOs||Company employees, executives, directors, contractors, and consultants||Exercise||Ordinary income tax, Social Security, and Medicare on the exercise spread||Yes, at exercise||Capital gains tax|
|ISOs||Only company employees and executives||Sale, unless AMT incurred||Ordinary income tax, AMT, or and/or capital gains*||No||Capital gains tax*|
*ISO taxation depends on when shares are sold and on the sale price relative to the exercise/purchase price and the market price at exercise. For details, see a related FAQ.
For more on the differences between NQSOs and ISOs, see a related article elsewhere on this website: Stock Options Made Simple: Comparing NQSOs And ISOs.