83b.ai

Real-World 83(b) Tax Savings Example

The theory behind the 83(b) election sounds great, but seeing the numbers in action makes the benefits crystal clear. For early-stage founders and employees, a tiny upfront tax payment can translate into massive long-term savings by converting high-taxed ordinary income into low-taxed capital gains.

This page provides a simplified, step-by-step example to illustrate the financial impact of filing versus not filing. We'll use a common scenario for a founder receiving a significant equity grant at a very early stage, when the company's valuation is minimal.

Key Takeaways

  • The Core Trade-Off: Pay a small, known tax bill now, or face a large, unknown tax bill later.
  • Power of Low FMV: The lower the Fair Market Value (FMV) at grant, the more powerful the 83(b) election becomes.
  • Tax Rate Differential: The savings come from the significant difference between ordinary income tax rates (up to 37%) and long-term capital gains rates (often 15-20%).
  • Vesting Matters: Without an 83(b), every vesting event becomes a taxable event, creating a recurring tax headache if the company is growing fast.

A Step-by-Step Guide to the Math

  1. Determine Value at Grant: First, establish the total value of your grant. Let's imagine a founder, Alex, receives 1,000,000 shares when the Fair Market Value (FMV) is $0.001 per share.
    1,000,000 shares * $0.001/share = $1,000 total grant value.
  2. Calculate Upfront Tax with 83(b): Alex files an 83(b) and pays tax on this initial value at a 35% ordinary income tax rate.
    $1,000 * 35% = $350 upfront tax. This is Alex's only ordinary income event for this stock.
  3. Project Future Value: Four years later, the company has grown and the stock is worth $2.00 per share. The total value is now $2,000,000.
  4. Calculate Capital Gains Tax at Sale (With 83(b)): Alex sells the shares. The capital gain is the sale price minus the initial value (the cost basis).
    ($2,000,000 - $1,000) * 15% capital gains rate = $299,850 tax.
    Total Tax with 83(b): $350 + $299,850 = $300,200.
  5. Calculate Tax Owed Without 83(b): If Alex didn't file, tax is due as the shares vest. Assuming they all vest when the price is $2.00, the entire $2,000,000 value is taxed as ordinary income.
    $2,000,000 * 35% ordinary income rate = $700,000 tax.
  6. Compare Total Tax Burden: The choice is clear. By paying $350 upfront, Alex saves over $400,000 in taxes in the long run. This is the power of the 83(b) election.

The Scenario: A Founder's Grant

Let's imagine a founder, Alex, who is granted 1,000,000 shares of restricted stock in a new startup. The stock vests over four years. At the time of grant, the company has a 409A valuation that pegs the Fair Market Value (FMV) at just $0.001 per share.

  • Total Shares: 1,000,000
  • FMV at Grant: $0.001 / share
  • Total Value at Grant: $1,000
  • Alex's Ordinary Income Tax Rate: 35%
  • Alex's Long-Term Capital Gains Rate: 15%

Scenario 1: Alex Files an 83(b) Election

Alex files the 83(b) election within 30 days. The tax calculation is simple:

Upfront Tax Bill: $1,000 (Total Value) x 35% (Ordinary Income Rate) = $350

Now, let's fast forward four years. The company is successful, and the stock is now worth $2.00 per share. Alex decides to sell all 1,000,000 vested shares.

  • Sale Price: $2,000,000
  • Cost Basis: $1,000 (The value Alex already paid tax on)
  • Capital Gain: $1,999,000
  • Capital Gains Tax: $1,999,000 x 15% = $299,850

Total Tax Paid: $350 (upfront) + $299,850 (at sale) = $300,200


graph LR
    A[Grant: 1M shares at $0.001] --> B(File 83(b));
    B --> C{Upfront Tax: $350};
    C --> D[4 Years Later: Stock at $2.00];
    D --> E{Sell for $2M};
    E --> F(Capital Gains Tax: $299,850);
    C & F --> G((Total Tax: $300,200));

Scenario 2: Alex Does NOT File an 83(b)

Alex does not file. There is no upfront tax. Instead, Alex pays tax as the shares vest. For simplicity, let's assume all shares vest at once after four years, when the stock is worth $2.00 per share.

  • Value at Vesting: 1,000,000 shares x $2.00/share = $2,000,000
  • Ordinary Income Tax at Vesting: $2,000,000 x 35% = $700,000

This creates a huge tax bill on phantom income—Alex has to pay $700,000 in taxes without having sold any stock. If Alex then holds the stock for another year and sells it for $2,500,000, the calculation is:

  • Capital Gain: $2,500,000 - $2,000,000 (new basis) = $500,000
  • Capital Gains Tax: $500,000 x 15% = $75,000

Total Tax Paid: $700,000 (at vesting) + $75,000 (at sale) = $775,000. That's over $470,000 more in taxes compared to filing the 83(b).

Frequently Asked Questions

How is ordinary income versus capital gains calculated?

Ordinary income is taxed at your standard marginal tax rate, which can be as high as 37% federally. Long-term capital gains are taxed at preferential rates, typically 0%, 15%, or 20%, depending on your income. The 83(b) election helps convert what would be ordinary income into capital gains.

What assumptions go into the savings model?

The key assumptions are the Fair Market Value (FMV) at the time of grant, the company's valuation growth over time, your personal income tax bracket, and the applicable capital gains tax rate. The model also assumes you hold the stock for at least a year after exercising to qualify for long-term rates.

When does the example break down?

The savings model breaks down if the company's value stagnates or declines. In that scenario, you would have paid tax upfront on value that never materialized, and you may have been better off from a cash-flow perspective by not filing and paying tax only on the shares that vest.

Get Personalized Help

This example is for illustrative purposes and uses simplified assumptions. Your actual savings will depend on your specific circumstances. We strongly recommend consulting with a qualified tax professional.

→ Need tailored advice? Email taxhelp@example.com