Probably to pay his tax bill, right?
are you sure about this. to me it's pretty obvious that if you receive a million dollars in stocks and, say, 48 hours later it goes to 0, then insofar as you owed taxes on the million due immediately, you have also just lost a million in taxable income; so you write the million loss off of the million in gains for net 0 increase or decrease in your taxable amount due to this gain-and-loss.
I know the IRS can be daft, but surely if you lose the exact amount you just got, then you've just netted nothing, taxable at your marginal tax rate on that gain for that type of gain, times nothing = nothing.
It was your choice to let your bet ride by keeping it in the stock.
You can use the capital loss to off-set capital gains but you owe income tax on money you make when cashing out options.
How can a type of income possibly be in a different bucket from loss of that very type of income?
This doesn't make any sense to me.
Lets say you have 10,000 options with a strike price of $1 and the stock is trading at $11.
Instead of sending a check for $10,000 to the broker and receiving the stock, you tell them to sell 3,000 options for $33,000, have them keep $10,000 to pay for the options and send $23,000 to the IRS.
A lot of people got screwed badly by this during the dot-com boom/bust, and it did lead to changes in how startups grant ordinary employees equity.
If you're ever in the situation of being given stock or options and you're not 100% sure of the implications, TALK TO AN ACCOUNTANT IMMEDIATELY.
If you got the stock as a gift, or (more likely in this startup context) an RSU grant, the entire value is taxed as ordinary income at the time you receive the shares. I don't think there's any special AMT treatment here.
If you purchased the stock using NQOs (non-qualified options), the difference between the strike price and fair market value is taxed as ordinary income at the time of purchase, and again I don't think there's any special AMT treatment.
If you purchased the stock using ISOs (incentive stock options), then you have to watch out for AMT -- under normal rules, you don't owe tax at time of purchase, and when you sell, if you held long enough, the gain from strike price to FMV at purchase time may be taxed as capital gains. But under AMT rules, the purchase is a taxable event, and you may owe tax at exercise time.
Under any of these, if you exercise (or are gifted) shares and hold them and they decline, you may end up owing taxes on the higher on-paper value that never meant real money to you, and this ends up feeling unfair. But this case is generally obvious enough you would see it coming, except in the ISO+AMT case which is much less obvious, and this difference is what screwed a lot of people in the 2000-era bubble burst.
Normal disclaimer: I'm not a lawyer or accountant, there are many more details that apply here, and you need to figure out what applies to you before making any important decisions. But I believe the above is basically true.
Still, this would likely end up in separate buckets. Someone giving you a million dollars in stock very likely counts as income, not capital gains. You'll have a tax liability for $1MM in income. Then, should it actually go to zero, you've got a $1MM capital loss. In general, capital losses are not fully deductible against income, only capital gains. I hope you also had a $1MM capital gain so you can do something with the loss...
But again, this case is pretty contrived. Likely if you're getting a large amount of stock like in this example, you know it's coming, and can decide what to do about it before it suddenly goes to 0. (Hint: holding onto it is deciding to let it ride.)
How can this possibly be what the tax code says? It just is.
For people that feel that the capital gains crowd gets special treatment…
How would you be with waiting 8 years for each paycheck, or being paid now in 2004 dollars ( paid 82 cents for each dollar you earn)?
Part of the long term capital gains reduction is a crude compensation for inflation. In this case it fails miserably because of the ludicrous ratio between profit and investment, but in the more normal case where you might make 40% while inflation came up 25% it achieves a sort of balance between tax and inflation's erosion of capital.
They got you covered. They are called "Treasury Inflation-Protected Securities". T-Bills that are inflation adjusted.