In this press release, the IRS announced the issuance of Revenue Ruling 2004-37. The Revenue Ruling is designed to “shut down an aggressive transaction involving the exercise of stock options by corporate insiders using debt financing provided by the corporation.” According to the press release, in these types of transactions corporate insiders exercise options they hold by giving the company a promissory note. If the value of the stock later falls below the face amount of the note, the company may agree to reduce the insider’s debt. Some individuals have tried to claim that this debt reduction does not result in taxable income.
The ruling provides that the reduction of debt in these circumstances does result in taxable income to the insider.The ruling also provides that a reduction in the interest rate under the note, or a change in the note so that the executive no longer has personal liability, also would result in compensation income.
The press release notes this statement from Acting Assistant Secretary for Tax Policy, Greg Jenner: “Once again, we have made it clear that everyone has to play by the same rules.”