McGraw-Hill's Taxation of Business Entities 3rd Edition by Connie Weaver, Brian Spilker, Edmund Outslay, John Robinson, Ronald Worsham, Benjamin Ayers, John Barrick

Exercise 67

Assume that on January 1, year 1, ABC Inc. issued 5,000 stock options with an estimated value of $10 per option. Each option entitles the owner to purchase one share of ABC stock for $25 a share (the per share price of ABC stock on January 1, year 1, when the options were granted). The options vest 50 percent at the end of the day on December 31, year 1, and 50 percent at the end of the day on December 31, year 2. All 5,000 stock options were exercised in year 3 when the ABC stock was valued at $31 per share. Identify ABC's year 1, 2, and 3 tax deductions and book-tax differences (indicate whether permanent and/or temporary) associated with the stock options under the following alternative scenarios:
a. The stock options are incentive stock options and ASC 718 (formerly FAS 123R) does not apply to the options.
b. The stock options are nonqualified stock options and ASC 718 does not apply to the options.
c. The stock options are incentive stock options and ASC 718 applies to the options.
d. The stock options are nonqualified stock options and ASC 718 applies to the options.