California: State Can Tax Stock Option Appreciation Occurring After Taxpayer Moved Out

June 14, 2021

California is a high-tax state, and more Californians are moving out to cut their state tax bill. California has no intention of making it easy.

The California Office of Tax Appeals (“OTA”) in In the Matter of the Appeal of N. Prince, has denied a taxpayer’s adjustment of the day count allocation to reflect the “sky-rocketed” value of stock which occurred after the taxpayer left California. The taxpayer, a Facebook employee, left California in 2010 and vested in restricted employer stock options in 2012. 

Compensation of nonresidents paid in the form of restricted stock options is required to be apportioned between California and other states to determine the portion of total compensation reasonably attributable to personal services performed in California.  California’s statutes and regulations do not specify an allocation method.

The Franchise Tax Board (“FTB”) multiplied the taxpayer’s total income from each of the restricted stock options by the ratio of taxpayer’s California workdays from the grant dates (2007 to 2010) to the vesting date over the total number of workdays during that period.  

The taxpayer disagreed and proposed allocating income from restricted stock options based on the annual stock appreciation method.  Using this method, the income attributable to compensation for personal services in California would equal the value of the stock on taxpayer’s last day of work in California minus the price of the stock on the date of the grant.  The taxpayer argued that the FTB’s allocation method is unreasonable because the restricted stock surged in value after the taxpayer left California and the taxpayer’s performance “directly contributed to the stock’s appreciation.”  

The OTA upheld the FTB’s workday allocation formula, stating that “it is not evident that the nature of appellant’s position and duties necessarily had a significant impact” on the value of the stock during the period at issue.  Furthermore, taxpayer’s methodology “can create a misrepresentation of the relationship between the services performed in each location and the state to which stock compensation is allocated.”

Taking into account the stock’s appreciation as the taxpayer did in this case could be a more accurate reflection of the income attributable to California sources.  The OTA provided that “[i]f evidence existed that showed appellant’s personal services had a significant impact on the increase in the stock value, then it would be possible to link the stock appreciation to appellant’s services performed after he became a nonresident of California, but appellant has failed to prove such evidence.” 

Since the Prince decision is nonprecedential, taxpayers may not rely on this decision. More may develop on this issue if the taxpayer appeals this decision to the Superior Court.

Please contact your Eide Bailly tax pro or the Eide Bailly SALT team with your state and local tax questions..

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