Ready or not, tax return reporting has changed yet again for the 2020 tax season. In 2018, the IRS condensed Form 1040 significantly, completely revamping the prior traditional version, and introduced additional schedules that funnel information to Form 1040. While the IRS did not modify the 2019 Form 1040 as drastically, there are key differences, especially in the way capital gains are reported.
Below I explain key tax return points for executives and employees who have income from stock compensation—such as stock options, restricted stock units, or an employee stock purchase plan (ESPP)—or who have gains from sales of company stock. Remember to file by April 15, 2020.
- The numbered schedules (supplementary forms) of Form 1040 have been reduced to three (Schedules 1, 2, 3).
- A new tax return, IRS Form 1040-SR (“US Tax Return For Seniors”), is available for taxpayers born before January 2, 1955. It has a large, easy-to-read font and includes a standard-deduction chart so that these taxpayers don’t need to access the instructions, though Schedule A is still available for itemizing deductions.
- The Tax Cuts & Jobs Act, the major tax legislation that took effect in 2018, continues to affect tax rates and rules, including itemized deduction limits. However, for anyone paying the kiddie tax, the SECURE Act (passed at year-end 2019) changed the tax rates that apply for a child’s unearned income over $2,200.
Reporting Compensation Income On Your Tax Return
The 2019 IRS Form 1040 has 24 lines. Stock compensation, such as from the exercise of nonqualified stock options (NQSO) or the vesting of restricted stock units, along with salary income and cash bonuses, is entered on Line 1 of Form 1040.
Income Omitted From Form W-2
Compensation income stock options or other equity comp should be aggregated in Box 1 of your W-2. If it’s uncertain what portions of your W-2 income come from stock comp, your company may voluntary specify that in Box 14; for nonqualified stock options and nonqualified ESPPs, your company is required to do so in Box 12. This compensation income will also appear in Box 5 for Medicare Wages, and in Box 3 for Social Security Wages up to the yearly maximum ($132,900 in 2019; this maximum was raised to $137,700 for 2020).
Schedule 1 is where you report any employee stock compensation income not reported on Form W-2. It goes on Line 8, with a short description of the income reported. This reporting on Schedule 1 changed from Line 21 for 2018 tax returns to Line 8 for 2019 returns.
Capital Gain Or Loss
If you sold shares during the 2019 tax year, you enter each sale on Form 8949 and report the total capital gain or loss on Schedule D. That total on Schedule D is directly reported on Line 6 of Form 1040. This is different from last year’s reporting, in which the total capital gain or loss was entered on Schedule 1 rather than on Form 1040.
IRS Restoration Of Capital Gains To The Body Of Form 1040
Putting capital gains reporting back on Form 1040 was a wise move by the IRS. Last tax season you did not directly report capital gains and losses on your Form 1040 tax return. Instead the capital gains total from Schedule D for tax year 2018 was reported on the newly created Schedule 1, with totals from that schedule going onto the revised Form 1040. Now, in the Form 1040 for tax year 2019, total capital gains (or losses) are back on the body of the form (Line 6) and not the schedule.
Last year’s experiment with capital gains reporting was unpopular. The IRS was criticized for the confusion it caused. However, the agency was under intense political pressure to fashion a “postcard-sized” tax return to coincide with the federal tax reforms introduced in 2018.
The change in the Form 1040 reporting was both innovative and disruptive. The IRS listened to feedback after the initial “product” failed to gain favor with users. It carefully weighed public comments, including those submitted by this blogger. The IRS eventually realized that taking away certain lines which used to fit on the two full main pages of Form 1040, and scattering them across attached schedules instead, made tax returns (and understanding your sources of income) more confusing for taxpayers, tax preparers, and financial advisors. While it is easy to criticize the IRS, as completing tax returns is complex and not enjoyable, at least the IRS learned and moved on from that experiment in an almost entrepreneurial way.
Alternative Minimum Tax (AMT)
A concern for anyone with incentive stock options (ISOs), the alternative minimum tax (AMT) is no longer directly reported on Form 1040 from the calculation on Form 6251. Instead, AMT from the Form 6251 calculation now goes into Line 1 of Schedule 2 (“Tax”). This is a change from last year’s reporting on Schedule 2 (which was on Line 45). Attach Form 6251 to Schedule 2.
Other aspects of reporting when you have an ISO exercise that triggers AMT and when you later sell the ISO stock:
- The totals from Part I of Schedule 2 go into the Line 12b totals of Form 1040 (previously Line 11).
- Form 6251 has not changed since last year, when its lines were revised. The spread at ISO exercise for the AMT calculation is reported on Line 2i. When the ISO stock that triggered the AMT is sold, the difference from the ordinary tax is reported on Line 2k.
- The AMT credit that is generated for an ISO exercise that triggers the AMT is recouped through Form 8801, as in the past. The amount from Line 25 of Form 8801 now goes into Schedule 3 (“Non-Refundable Credits”) on Line 6 (check box b). The totals from Part I of Schedule 3 go into Line 13b of Form 1040.
Rules For Cost-Basis Reporting for Stock Sales
For stock sales, there is still no change in the IRS rules on how the cost-basis information is reported on Form 1099-B and Form 8949. For grants made in 2014 and later years, brokers are prohibited from including equity compensation income (which appears on Form W-2) in the cost basis reported on Form 1099-B. This creates tax return complications and the risk of overpaying taxes, as only the exercise cost appears on the 1099-B. This means that for restricted stock/RSUs, confusingly, the cost basis reported on Form 1099-B is zero or the box is left blank. However, the correct cost basis is the value of the shares at vesting. That is what you need to report on Form 8949.
Additional Tax-Reporting Resources
For guidance on the tax-return reporting for stock compensation and sales of company shares, including annotated diagrams of Form W-2, Form 8949, Schedule D, Form 3921, and Form 3922, see the Tax Center on myStockOptions.com.