New York Law Review

Tag: Stock Options

  • DeJesus v. DeJesus, 90 N.Y.2d 643 (1997): Determining Marital Property Interest in Stock Options

    DeJesus v. DeJesus, 90 N.Y.2d 643 (1997)

    Stock options granted during a marriage, but contingent on future employment, require a determination of whether they compensate for past services, incentivize future services, or both, to equitably distribute their value as marital property.

    Summary

    In a divorce action, the central issue was the classification and distribution of stock options granted to the husband during the marriage, which were contingent on his continued employment post-divorce. The trial court deemed the entirety of the stock plans marital property, to be divided equally. The husband appealed, arguing for a time-rule calculation similar to pension rights. The Court of Appeals reversed and remitted, holding that a proper determination requires evidence on whether the stock plans compensate for past services, incentivize future services, or both. This case provides a framework for evaluating how to equitably distribute stock options in divorce proceedings.

    Facts

    The parties married in 1979. The husband began employment with Astoria Financial Corporation seven months before the marriage and progressed to First Assistant Vice-President during the marriage. In 1993, Astoria granted the husband two restricted stock benefit plans: the Incentive Stock Option Plan (ISOP) and the Recognition and Retention Plan (RRP). Both plans were contingent on the husband’s continued employment with Astoria. The wife commenced a divorce action in 1994.

    Procedural History

    The wife commenced a divorce action in Supreme Court. The parties stipulated to all issues save the stock plans. The trial court deemed all stock plans marital property, to be divided equally. The Appellate Division affirmed. The Court of Appeals granted leave to appeal.

    Issue(s)

    Whether stock options granted during a marriage, but contingent on future employment, constitute marital property subject to equitable distribution, and if so, how should their value be determined?

    Holding

    No, not without further determination. The Court of Appeals reversed and remitted, holding that the trial court lacked a sufficient basis to determine whether the stock plans constituted deferred compensation for employment during the marriage, or if any portion was purely an incentive for future services. “The parties’ submissions, absent sworn testimony or documentation from persons with knowledge of just how and why these stock plans came to be, do not suffice to enable the courts to determine what portions of the plans at issue, if any, constitute marital property.”

    Court’s Reasoning

    The court reasoned that the determination of whether an asset is marital property is a question of law subject to review. Marital property includes “all property acquired by either or both spouses during the marriage and before the execution of a separation agreement or the commencement of a matrimonial action” (Domestic Relations Law § 236 [B] [1] [c]). The court noted stock plans can be deferred compensation for past services or incentives for future services. It reviewed approaches from other states, highlighting the need to balance considerations of law and equity. Drawing from In re Marriage of Miller (Colorado), the court suggested an analysis to determine whether the stock plans were granted for past services (wholly marital property) or future services (not marital property until those services are performed). The court adopted a Miller-type analysis to accommodate tensions between portions of stock plans acquired during and outside the marriage, and those compensating for past versus future services. It instructed the trial court to consider if the plans were offered as a bonus or alternative to fixed salary, if the value was tied to future performance, and if the plan was used to attract key personnel. A time rule should be applied to determine the marital share of portions granted as compensation for past services and as incentive for future services. Ultimately, the portion deemed marital property would be subject to equitable distribution.

  • Michaelsen v. New York State Tax Commission, 67 N.Y.2d 579 (1986): Taxation of Nonresident Stock Option Gains

    Michaelsen v. New York State Tax Commission, 67 N.Y.2d 579 (1986)

    When a nonresident exercises stock options granted by a New York employer, the taxable gain in New York is the difference between the option price and the stock’s fair market value on the exercise date; subsequent stock sale gains are not taxable in New York.

    Summary

    James Michaelsen, a Connecticut resident, challenged a New York State income tax assessment on gains from exercising stock options granted by his New York employer, Avon. The Tax Commission argued both the gain from exercising the option and the later stock sale were taxable in New York. The Court of Appeals held that only the gain realized at the time of exercising the options (difference between option price and fair market value at exercise) was taxable in New York. The gain from the later sale of the stock was not taxable because it was considered investment income and not derived from New York sources.

    Facts

    James Michaelsen, a senior executive at Avon in New York City, received stock options in 1968. In 1972 and 1973, he exercised these options while working in New York, purchasing 6,000 shares of Avon stock. In 1973, while a resident of Connecticut, Michaelsen sold all the shares, realizing a gain of $179,761. He did not report this gain on his New York State nonresident income tax return.

    Procedural History

    The New York Tax Commission assessed additional income tax liability of $19,017.12. Michaelsen challenged this in an Article 78 proceeding. Special Term dismissed the petition. The Appellate Division remitted the case to the Tax Commission to recompute the tax based on the difference between the stock’s fair market value when the options became exercisable and the option price. The Tax Commission appealed to the Court of Appeals.

    Issue(s)

    Whether gains derived from the exercise of stock options granted to a nonresident by a New York employer, and the subsequent sale of stock acquired through those options, constitute income derived from or connected with New York sources for income tax purposes under Tax Law § 632.

    Holding

    Yes, in part, because the gain derived from the exercise of the option is taxable in New York, calculated as the difference between the option price and the fair market value of the stock on the date the option is exercised. No, in part, because the gain from the subsequent sale of the stock is not considered income derived from New York sources and is therefore not taxable in New York.

    Court’s Reasoning

    The Court considered Tax Law § 632 (a)(1) and (b)(1)(B), noting that New York’s income tax law conforms to federal authority where possible. Referencing Commissioner v. LoBue, 351 U.S. 243 (1956), the Court acknowledged that federal tax law taxes the compensation an employee receives by purchasing stock at below market value via options. However, the court distinguished between the *realization* and *recognition* of income. The gain is *realized* when the option is exercised but *recognized* when the stock is disposed of. Citing Treasury Regulations, the court emphasized that the value of an option includes not only the difference between the exercise price and the stock’s value at exercise but also the opportunity to benefit from future appreciation. The Court rejected the Appellate Division’s formula, stating it undervalued the options and conflicted with federal law. The proper method is to subtract the option price from the fair market value of the stock when the option is exercised. The court stated, “Plainly the option on the date it becomes exercisable is worth more than merely the difference between the fair market value of the stock at that time and the option price.” The court found that taxing the gain from the stock’s increased value after purchase improperly taxed intangible personal property not derived from a New York source, stating, “Any gain petitioner realized from an increase in the market value of Avon stock between the time the option was exercised and the time the stock was sold is clearly investment income rather than compensation and, as a nonresident, petitioner cannot be taxed on this amount.” The case was remitted for tax assessment based on the stock value at the time of option exercise.