II

103D CONGRESS

1ST SESSION S. 1175

To amend the Internal Revenue Code of 1986 to allow corporations to

issue performance stock options to employees, and for other purposes.

IN THE SENATE OF THE UNITED STATES

JUNE 29 (legislative day, JUNE 22), 1993

Mr. LIEBERMAN (for himself, Mr. MACK, Mrs. FEINSTEIN, and Mrs. BOXER)

introduced the following bill; which was read twice and referred to the

Committee on Finance

A BILL

To amend the Internal Revenue Code of 1986 to allow corporations to issue performance stock options to employees, and for other purposes.

1 Be it enacted by the Senate and House of Representa2 tives of the United States of America in Congress assembled,

3 SECTION 1. SHORT TITLE.

4 This Act may be cited as the ‘‘Equity Expansion Act

5 of 1993’’.

6 SEC. 2. PERFORMANCE STOCK OPTIONS.

7 (a) IN GENERAL.—Part II of subchapter D of chap8 ter 1 of the Internal Revenue Code of 1986 (relating to

9 certain stock options) is amended by redesignating section
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1 424 as section 425 and by inserting after section 423 the

2 following new section:

3 ‘‘SEC. 424. PERFORMANCE STOCK OPTIONS.

4 ‘‘(a) IN GENERAL.—Section 421(a) shall apply with

5 respect to the transfer of a share of stock to any person

6 pursuant to the exercise of a performance stock option if

7 no disposition of such share is made by such person within

8 1 year after the transfer of such share to such person.

9 ‘‘(b) PERFORMANCE STOCK OPTION.—For purposes

10 of this part—

11 ‘‘(1) IN GENERAL.—The term ‘performance

12 stock option’ means an option granted to any person

13 for any reason in connection with the performance

14 of services for an entity described in paragraph (4)

15 to purchase stock of any corporation described in

16 paragraph (4).

17 ‘‘(2) ADDITIONAL REQUIREMENTS.—An option

18 shall not be treated as a performance stock option

19 unless the following requirements are met:

20 ‘‘(A) NONDISCRIMINATION.—Either—

21 ‘‘(i) the option is granted to an em22 ployee who, at the time of the grant, is not

23 a highly compensated employee, or

24 ‘‘(ii) immediately after the grant of

25 the option, employees who are not highly
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1 compensated employees hold performance

2 share options which permit the acquisition

3 of at least 50 percent of all shares which

4 may be acquired pursuant to all perform5 ance stock options outstanding (whether or

6 not exercisable) as of such time.

7 For purposes of clause (ii), only that portion of

8 the options held by persons other than

9 nonhighly compensated employees which results

10 in the requirements of clause (ii) not being met

11 shall be treated as options which are not per12 formance stock options, and such portion shall

13 be allocated among options held by such per14 sons in such manner as the Secretary may

15 prescribe.

16 ‘‘(B) SPECIFIC NUMBER OF OPTIONS.—

17 The option is granted pursuant to a plan that

18 includes either—

19 ‘‘(i) the aggregate number of shares

20 that may be issued under options granted

21 under the plan, or

22 ‘‘(ii) a method by which the aggregate

23 number of shares that may be issued under

24 options granted under the plan can be de25 termined (without regard to whether such
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1 aggregate number may change under such

2 method),

3 and which is approved by the stockholders of

4 the granting corporation within 12 months be5 fore or after the date such plan is adopted.

6 ‘‘(C) TIME WHEN OPTION GRANTED.—The

7 option is granted within 10 years after the date

8 the plan described in subparagraph (B) is

9 adopted, or the date such plan is approved by

10 the stockholders, whichever is earlier.

11 ‘‘(D) TIME FOR EXERCISING OPTION.—

12 The option by its terms is not exercisable after

13 the expiration of 10 years from the date such

14 option is granted.

15 ‘‘(E) OPTION PRICE.—Except as provided

16 in paragraph (6) of subsection (c), the option

17 price is not less than the fair market value of

18 the stock at the time the option is granted.

19 ‘‘(F) TRANSFERABILITY.—The option by

20 its terms is not transferable by the person hold21 ing the option, other than—

22 ‘‘(i) in the case of an individual, by

23 will or the laws of descent and distribution,

24 or pursuant to a qualified domestic rela-
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1 tions order (as defined in subsection (p) of

2 section 414), and

3 ‘‘(ii) in the case of any other person,

4 by any transaction in which gain or loss is

5 not recognized in whole or in part.

6 ‘‘(3) ELECTION NOT TO TREAT OPTION AS PER7 FORMANCE STOCK OPTION.—An option shall not be

8 treated as a performance stock option if—

9 ‘‘(A) as of the time the option is granted

10 the terms of such option provide that it will not

11 be treated as a performance stock option, or

12 ‘‘(B) as of the time such option is exer13 cised the grantor and holder agree that such

14 option will not be treated as a performance

15 stock option.

16 ‘‘(4) ENTITIES TO WHICH SECTION APPLIES.—

17 This section shall apply to an option granted to a

18 person who performs services for—

19 ‘‘(A) the corporation issuing the option, or

20 its parent or subsidiary corporation,

21 ‘‘(B) a partnership in which the corpora22 tion issuing the option holds (at the time of the

23 grant) a capital or profits interest representing

24 at least 20 percent of the total capital or profits

25 interest of the partnership, or
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1 ‘‘(C) a corporation or a parent or subsidi2 ary corporation of such corporation issuing or

3 assuming a stock option in a transaction to

4 which section 425(a) applies.

5 ‘‘(5) HIGHLY COMPENSATED EMPLOYEE.—For

6 purposes of this subsection, the term ‘highly com7 pensated employee’ has the meaning given such term

8 by section 414(q).

9 ‘‘(c) SPECIAL RULES.—

10 ‘‘(1) GOOD FAITH EFFORTS TO VALUE

11 STOCK.—If a share of stock is acquired pursuant to

12 the exercise by any person of an option which would

13 fail to qualify as a performance stock option under

14 subsection (b) because there was a failure in an at15 tempt, made in good faith, to meet the requirement

16 of subparagraph (E) of subsection (b)(2), the re17 quirement of subparagraph (E) of subsection (b)(2)

18 shall be considered to have been met.

19 ‘‘(2) PERMISSIBLE PROVISIONS.—An option

20 that meets the requirements of subsection (b) shall

21 be treated as a performance stock option even if—

22 ‘‘(A) the option holder may pay for the

23 stock with stock of the corporation granting the

24 option,
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1 ‘‘(B) the option holder has the right to re2 ceive property at the time of the exercise of the

3 option,

4 ‘‘(C) the right to exercise all or any por5 tion of a performance stock option may be sub6 ject to any condition, contingency or other cri7 teria (including, without limitation, the contin8 ued performance of services, achievement of

9 performance objectives, or the occurrence of any

10 event) which are determined in accordance with

11 the provisions of the plan or the terms of such

12 option, or

13 ‘‘(D) the option is subject to any condition

14 not inconsistent with the provisions of sub15 section (b).

16 ‘‘(3) FAIR MARKET VALUE.—For purposes of

17 this section, the fair market value of stock shall be

18 determined without regard to any restriction other

19 than a restriction that, by its terms, will never lapse.

20 ‘‘(4) DEFINITION OF PARENT AND SUBSIDIARY

21 CORPORATIONS.—For purposes of this section, the

22 terms ‘parent corporation’ and ‘subsidiary corpora23 tion’ have the meanings given such terms by sub24 sections (e) and (f) of section 425 except that such
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1 subsections shall be applied by substituting ‘20 per2 cent’ for ‘50 percent’ each place it appears.

3 ‘‘(5) PERFORMANCE CRITERIA.—In the case of

4 a performance stock option that provides that its ex5 ercise is subject to any conditions or criteria de6 scribed in subparagraph (C) of paragraph (2), the

7 date or time the option is granted with respect to

8 each share that may be acquired shall be the date

9 or time the original performance share option is

10 granted and subject to the provisions of section

11 425(h), no portion of the option shall be treated as

12 granted at any other time.

13 ‘‘(6) CONVERSION OF OPTIONS.—If—

14 ‘‘(A) there is a transfer of an incentive

15 stock option in exchange for a performance

16 stock option, and

17 ‘‘(B) the number of shares that may be ac18 quired pursuant to such performance stock op19 tion and the transferred incentive stock option

20 are the same,

21 then the option acquired shall qualify as a perform22 ance stock option if the option price pursuant to the

23 performance share option is no less than the option

24 price under the transferred incentive stock option.’’

25 (b) CONFORMING AMENDMENTS.—
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1 (1) Section 421(a) of such Code is amended by

2 striking ‘‘or 423(a)’’ and inserting ‘‘, 423(a), or

3 424(a)’’.

4 (2) Section 421(b) of such Code is amended—

5 (A) by striking ‘‘or 423(a)’’ and inserting

6 ‘‘, 423(a), or 424(a)’’, and

7 (B) by striking ‘‘or 423(a)(1)’’ and insert8 ing ‘‘423(a)(1), or 424(a)’’.

9 (3) Section 421(c)(1)(A) of such Code is

10 amended by inserting ‘‘and the holding period re11 quirement of section 424(a)’’ after ‘‘423(a)’’.

12 (4)(A) Sections 421(a)(2), 422(a)(2), and

13 423(a)(2) of such Code are each amended by strik14 ing ‘‘424(a)’’ and inserting ‘‘425(a)’’.

15 (B) Clause (ii) of section 402(e)(4)(E) of such

16 Code is amended by striking ‘‘424’’ and inserting

17 ‘‘425’’.

18 (5) Section 423(b)(3) of such Code is amended

19 by striking ‘‘424(d)’’ and inserting ‘‘425(d)’’.

20 (6) Section 425(a) of such Code, as redesig21 nated by subsection (a), is amended by striking

22 ‘‘424(a)’’ and inserting ‘‘425(a)’’.

23 (7) Section 425(c)(3)(A)(ii) of such Code, as re24 designated by subsection (a), is amended by striking
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1 ‘‘or 423(a)(1)’’ and inserting ‘‘, 423(a)(1), or

2 424(a)’’.

3 (8) Section 425(g) of such Code, as redesig4 nated by subsection (a), is amended by striking ‘‘and

5 423(a)(2)’’ and inserting ‘‘, 423(a)(2) and 424(b)(4)

6 (as modified by section 424(c)(4))’’.

7 (9) Section 425(j) of such Code, as redesig8 nated by subsection (a) (relating to cross-ref9 erences), is amended by inserting ‘‘performance

10 stock option’’ after ‘‘employee stock purchase

11 plans,’’.

12 (10) Section 1042(c)(1)(B)(ii) of such Code is

13 amended by striking ‘‘or 423’’ and inserting ‘‘423,

14 or 424’’.

15 (11)(A) Section 6039(a)(1) of such Code is

16 amended by inserting ‘‘or performance stock option’’

17 after ‘‘incentive stock option’’.

18 (B) Section 6039(b)(1) is amended by inserting

19 ‘‘, performance share option,’’ after ‘‘incentive stock

20 option’’.

21 (C) Section 6039(c) is amended by striking

22 ‘‘and’’ at the end of paragraph (1), by striking the

23 period at the end of paragraph (2) and inserting ‘‘,

24 and’’ and by adding at the end the following new

25 paragraph:
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1 ‘‘(3) the term ‘performance share option’, see

2 424(b).’’

3 (12) The table of sections for part II of sub4 chapter D of chapter 1 of such Code is amended by

5 striking the item relating to section 424 and insert6 ing the following new items:

‘‘Sec. 424. Performance stock options.

‘‘Sec. 425. Definitions and special rules.’’

7 SEC. 3. TAX TREATMENT OF GAIN ON PERFORMANCE

8 SHARE OPTIONS.

9 (a) EXCLUSION.—

10 (1) IN GENERAL.—Part I of subchapter P of

11 chapter 1 of the Internal Revenue Code of 1986 (re12 lating to capital gains and losses) is amended by

13 adding at the end the following new section:

14 ‘‘SEC. 1202. 50-PERCENT EXCLUSION FOR GAIN FROM

15 STOCK ACQUIRED THROUGH PERFORMANCE

16 STOCK OPTIONS.

17 ‘‘(a) GENERAL RULE.—Gross income shall not in18 clude 50 percent of the gain from the disposition of any

19 stock acquired pursuant to the exercise of a performance

20 stock option if such disposition occurs more than 2 years

21 after the date on which such option was exercised with

22 respect to such stock.

23 ‘‘(b) DEFINITIONS AND RULES.—For purposes of

24 this section—
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1 ‘‘(1) PERFORMANCE STOCK OPTION.—The term

2 ‘performance stock option’ has the meaning given

3 such term by section 424(b).

4 ‘‘(2) CERTAIN ACQUISITIONS DISREGARDED.—

5 If stock described in subsection (a) is disposed of

6 and the basis of the person acquiring the stock is de7 termined by reference to the basis of the stock in the

8 hands of the person who acquired it through exercise

9 of the performance stock option, such person shall

10 be treated as acquiring such stock pursuant to such

11 option on the date such stock was acquired pursuant

12 to the exercise of such option.

13 ‘‘(3) EXERCISE BY ESTATE.—If a performance

14 stock option is exercised after the death of an indi15 vidual holder by the estate of the decedent, or by a

16 person who acquired the right to exercise such op17 tion by bequest or inheritance or by reason of the

18 death of the decedent, the 2-year holding require19 ment of subsection (a) shall not apply to the disposi20 tion by such estate or person.’’

21 (2) CONFORMING AMENDMENTS.—

22 (A)(i) Section 172(d)(2) of such Code (re23 lating to modifications with respect to net oper24 ating loss deduction) is amended to read as

25 follows:
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1 ‘‘(2) CAPITAL GAINS AND LOSSES OF TAX2 PAYERS OTHER THAN CORPORATIONS.—In the case

3 of a taxpayer other than a corporation—

4 ‘‘(A) the amount deductible on account of

5 losses from sales or exchanges of capital assets

6 shall not exceed the amount includable on ac7 count of gains from sales or exchanges of cap8 ital assets, and

9 ‘‘(B) the exclusion provided by section

10 1202 shall not be allowed.’’

11 (ii) Subparagraph (B) of section 172(d)(4)

12 of such Code is amended by inserting ‘‘,

13 (2)(B),’’ after ‘‘paragraph (1)’’.

14 (B) Paragraph (4) of section 642(c) is

15 amended to read as follows:

16 ‘‘(4) ADJUSTMENTS.—To the extent that the

17 amount otherwise allowable as a deduction under

18 this subsection consists of gain described in section

19 1202(a), proper adjustment shall be made for any

20 exclusion allowable to the estate or trust under sec21 tion 1202. In the case of a trust, the deduction al22 lowed by this subsection shall be subject to section

23 681 (relating to unrelated business income).’’

24 (C) Paragraph (3) of section 643(a) of

25 such Code is amended by adding at the end
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1 thereof the following new sentence: ‘‘The exclu2 sion under section 1202 shall not be taken into

3 account.’’

4 (D) Paragraph (4) of section 691(c) of

5 such Code is amended by striking ‘‘1201, and

6 1211’’ and inserting ‘‘1201, 1202, and 1211’’.

7 (E) The second sentence of paragraph (2)

8 of section 871(a) of such Code is amended by

9 inserting ‘‘such gains and losses shall be deter10 mined without regard to section 1202 and’’

11 after ‘‘except that’’.

12 (F) The table of sections for part I of sub13 chapter P of chapter 1 is amended by adding

14 after the item relating to section 1201 the fol15 lowing new item:

‘‘Sec. 1202. 50-percent exclusion for gain from stock acquired

through performance stock options.’’

16 (b) TREATMENT FOR WAGE WITHHOLDING AND EM17 PLOYMENT TAXES.—

18 (1) FICA TAXES.—Section 3121(a) of the In19 ternal Revenue Code of 1986 (defining wages) is

20 amended by striking ‘‘or’’ at the end of paragraph

21 (20), by striking the period at the end of paragraph

22 (21) and inserting ‘‘, or’’, and by adding after para23 graph (21) the following new paragraph:
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1 ‘‘(22) any gain from the exercise of a perform2 ance stock option (as defined in section 424(b)) or

3 from the disposition of stock acquired pursuant to

4 the exercise of such a performance stock option.’’

5 (2) FUTA TAXES.—Section 3306(b) of such

6 Code (defining wages) is amended by striking ‘‘or’’

7 at the end of paragraph (15), by striking the period

8 at the end of paragraph (16) and inserting ‘‘, or’’,

9 and by adding after paragraph (16) the following

10 new paragraph:

11 ‘‘(17) any gain described in section

12 3121(a)(22).’’

13 (3) WAGE WITHHOLDING.—

14 (A) Section 3401(a) of such Code (defining

15 wages) is amended by striking ‘‘or’’ at the end

16 of paragraph (19), by striking the period at the

17 end of paragraph (20) and inserting ‘‘, or’’, and

18 by adding at the end the following new para19 graph:

20 ‘‘(21) any gain from the exercise of a perform21 ance stock option (as defined in section 424(b)) or

22 from the disposition of stock acquired pursuant to

23 such a performance stock option .’’

24 (B) Section 421(b) of such Code (relating

25 to effect of disqualifying disposition) is amend-
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1 ed by adding at the end the following new sen2 tence: ‘‘A deduction to the employer corporation

3 in the case of a transfer pursuant to an option

4 described in section 422, 423, or 424 shall not

5 be disallowed by reason of a failure to withhold

6 tax under chapter 24 with respect to gain on

7 stock acquired in the transfer.’’

8 SEC. 4. STOCK OPTION COMPENSATION.

9 Section 14 of the Securities Exchange Act of 1934

10 (15 U.S.C. 78n) is amended by adding at the end the fol11 lowing new subsection:

12 ‘‘(h) STOCK OPTION COMPENSATION.—The Commis13 sion shall not require or permit an issuer to recognize any

14 expense or other charge in financial statements furnished

15 to its security holders resulting from, or attributable to,

16 either the grant, vesting, or exercise of any option or other

17 right to acquire any equity security of such issuer (even

18 if the right to exercise such option or right is subject to

19 any conditions, contingencies or other criteria, including,

20 without limitation, the continued performance of services,

21 achievement of performance objectives, or the occurrence

22 of any event) which is granted to its directors, officers,

23 employees, or other persons in connection with the per24 formance of services, where the exercise price of such op25 tion or right is not less than the fair market value of the
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1 underlying security at the time such option or right is

2 granted.’’

3 SEC. 5. EFFECTIVE DATE.

4 The amendments made by this Act shall apply to op5 tions granted after the date of the enactment of this Act.

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