
From the U.S. Code Online via GPO Access
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[Laws in effect as of January 2, 2001]
[Document not affected by Public Laws enacted between
  January 2, 2001 and January 28, 2002]
[CITE: 26USC422]

 
                     TITLE 26--INTERNAL REVENUE CODE
 
                        Subtitle A--Income Taxes
 
                  CHAPTER 1--NORMAL TAXES AND SURTAXES
 
                Subchapter D--Deferred Compensation, Etc.
 
                     PART II--CERTAIN STOCK OPTIONS
 
Sec. 422. Incentive stock options


(a) In general

    Section 421(a) shall apply with respect to the transfer of a share 
of stock to an individual pursuant to his exercise of an incentive stock 
option if--
        (1) no disposition of such share is made by him within 2 years 
    from the date of the granting of the option nor within 1 year after 
    the transfer of such share to him, and
        (2) at all times during the period beginning on the date of the 
    granting of the option and ending on the day 3 months before the 
    date of such exercise, such individual was an employee of either the 
    corporation granting such option, a parent or subsidiary corporation 
    of such corporation, or a corporation or a parent or subsidiary 
    corporation of such corporation issuing or assuming a stock option 
    in a transaction to which section 424(a) applies.

(b) Incentive stock option

    For purposes of this part, the term ``incentive stock option'' means 
an option granted to an individual for any reason connected with his 
employment by a corporation, if granted by the employer corporation or 
its parent or subsidiary corporation, to purchase stock of any of such 
corporations, but only if--
        (1) the option is granted pursuant to a plan which includes the 
    aggregate number of shares which may be issued under options and the 
    employees (or class of employees) eligible to receive options, and 
    which is approved by the stockholders of the granting corporation 
    within 12 months before or after the date such plan is adopted;
        (2) such option is granted within 10 years from the date such 
    plan is adopted, or the date such plan is approved by the 
    stockholders, whichever is earlier;
        (3) such option by its terms is not exercisable after the 
    expiration of 10 years from the date such option is granted;
        (4) the option price is not less than the fair market value of 
    the stock at the time such option is granted;
        (5) such option by its terms is not transferable by such 
    individual otherwise than by will or the laws of descent and 
    distribution, and is exercisable, during his lifetime, only by him; 
    and
        (6) such individual, at the time the option is granted, does not 
    own stock possessing more than 10 percent of the total combined 
    voting power of all classes of stock of the employer corporation or 
    of its parent or subsidiary corporation.

Such term shall not include any option if (as of the time the option is 
granted) the terms of such option provide that it will not be treated as 
an incentive stock option.

(c) Special rules

              (1) Good faith efforts to value of stock

        If a share of stock is transferred pursuant to the exercise by 
    an individual of an option which would fail to qualify as an 
    incentive stock option under subsection (b) because there was a 
    failure in an attempt, made in good faith, to meet the requirement 
    of subsection (b)(4), the requirement of subsection (b)(4) shall be 
    considered to have been met. To the extent provided in regulations 
    by the Secretary, a similar rule shall apply for purposes of 
    subsection (d).

    (2) Certain disqualifying dispositions where amount realized 
                       is less than value at exercise

        If--
            (A) an individual who has acquired a share of stock by the 
        exercise of an incentive stock option makes a disposition of 
        such share within either of the periods described in subsection 
        (a)(1), and
            (B) such disposition is a sale or exchange with respect to 
        which a loss (if sustained) would be recognized to such 
        individual,

    then the amount which is includible in the gross income of such 
    individual, and the amount which is deductible from the income of 
    his employer corporation, as compensation attributable to the 
    exercise of such option shall not exceed the excess (if any) of the 
    amount realized on such sale or exchange over the adjusted basis of 
    such share.

           (3) Certain transfers by insolvent individuals

        If an insolvent individual holds a share of stock acquired 
    pursuant to his exercise of an incentive stock option, and if such 
    share is transferred to a trustee, receiver, or other similar 
    fiduciary in any proceeding under title 11 or any other similar 
    insolvency proceeding, neither such transfer, nor any other transfer 
    of such share for the benefit of his creditors in such proceeding, 
    shall constitute a disposition of such share for purposes of 
    subsection (a)(1).

                     (4) Permissible provisions

        An option which meets the requirements of subsection (b) shall 
    be treated as an incentive stock option even if--
            (A) the employee may pay for the stock with stock of the 
        corporation granting the option,
            (B) the employee has a right to receive property at the time 
        of exercise of the option, or
            (C) the option is subject to any condition not inconsistent 
        with the provisions of subsection (b).

    Subparagraph (B) shall apply to a transfer of property (other than 
    cash) only if section 83 applies to the property so transferred.

                   (5) 10-percent shareholder rule

        Subsection (b)(6) shall not apply if at the time such option is 
    granted the option price is at least 110 percent of the fair market 
    value of the stock subject to the option and such option by its 
    terms is not exercisable after the expiration of 5 years from the 
    date such option is granted.

                   (6) Special rule when disabled

        For purposes of subsection (a)(2), in the case of an employee 
    who is disabled (within the meaning of section 22(e)(3)), the 3-
    month period of subsection (a)(2) shall be 1 year.

                        (7) Fair market value

        For purposes of this section, the fair market value of stock 
    shall be determined without regard to any restriction other than a 
    restriction which, by its terms, will never lapse.

(d) $100,000 per year limitation

                           (1) In general

        To the extent that the aggregate fair market value of stock with 
    respect to which incentive stock options (determined without regard 
    to this subsection) are exercisable for the 1st time by any 
    individual during any calendar year (under all plans of the 
    individual's employer corporation and its parent and subsidiary 
    corporations) exceeds $100,000, such options shall be treated as 
    options which are not incentive stock options.

                          (2) Ordering rule

        Paragraph (1) shall be applied by taking options into account in 
    the order in which they were granted.

               (3) Determination of fair market value

        For purposes of paragraph (1), the fair market value of any 
    stock shall be determined as of the time the option with respect to 
    such stock is granted.

(Added Pub. L. 97-34, title II, Sec. 251(a), Aug. 13, 1981, 95 Stat. 
256, Sec. 422A; amended Pub. L. 97-448, title I, Sec. 102(j)(1)-(4), 
Jan. 12, 1983, 96 Stat. 2373; Pub. L. 98-369, div. A, title V, 
Sec. 555(a)(1), div. B, title VI, Sec. 2662(f)(1), July 18, 1984, 98 
Stat. 897, 1159; Pub. L. 99-514, title III, Sec. 321(a), (b), title 
XVIII, Sec. 1847(b)(5), Oct. 22, 1986, 100 Stat. 2220, 2856; Pub. L. 
100-647, title I, Sec. 1003(d)(1)(A), (2), Nov. 10, 1988, 102 Stat. 
3384; renumbered Sec. 422 and amended Pub. L. 101-508, title XI, 
Sec. 11801(c)(9)(A)(i), (C), Nov. 5, 1990, 104 Stat. 1388-524, 1388-
525.)


                            Prior Provisions

    A prior section 422, added Pub. L. 88-272, title II, Sec. 221(a), 
Feb. 26, 1964, 78 Stat. 64; amended Pub. L. 94-455, title VI, 
Sec. 603(a), (b), title XIX, Sec. 1906(b)(13)(A), Oct. 4, 1976, 90 Stat. 
1574, 1834; Pub. L. 96-589, Sec. 6(i)(3), Dec. 24, 1980, 94 Stat. 3410, 
related to qualified stock options, prior to repeal by Pub. L. 101-508, 
title XI, Sec. 11801(a)(20), Nov. 5, 1990, 104 Stat. 1388-521. For 
savings provision, see section 11821(b) of Pub. L. 101-508, set out as a 
note under section 29 of this title.


                               Amendments

    1990--Pub. L. 101-508, Sec. 11801(c)(9)(A)(i), renumbered section 
422A of this title as this section.
    Subsec. (a)(2). Pub. L. 101-508, Sec. 11801(c)(9)(C)(i), substituted 
``424(a)'' for ``425(a)''.
    Subsec. (c)(5) to (8). Pub. L. 101-508, Sec. 11801(c)(9)(C)(ii), 
redesignated pars. (6) to (8) as (5) to (7), respectively, and struck 
out former par. (5) ``Coordination with sections 422 and 424'' which 
read as follows: ``Sections 422 and 424 shall not apply to an incentive 
stock option.''
    1988--Subsec. (b). Pub. L. 100-647, Sec. 1003(d)(1)(A), inserted at 
end ``Such term shall not include any option if (as of the time the 
option is granted) the terms of such option provide that it will not be 
treated as an incentive stock option.''
    Subsec. (b)(7). Pub. L. 100-647, Sec. 1003(d)(2)(B), struck out par. 
(7) which read as follows: ``under the terms of the plan, the aggregate 
fair market value (determined at the time the option is granted) of the 
stock with respect to which incentive stock options are exercisable for 
the 1st time by such individual during any calendar year (under all such 
plans of the individual's employer corporation and its parent and 
subsidiary corporations) shall not exceed $100,000.''
    Subsec. (c)(1). Pub. L. 100-647, Sec. 1003(d)(2)(C), substituted 
``subsection (d)'' for ``paragraph (7) of subsection (b)''.
    Subsec. (d). Pub. L. 100-647, Sec. 1003(d)(2)(A), added subsec. (d).
    1986--Subsec. (b)(7). Pub. L. 99-514, Sec. 321(a), added par. (7) 
and struck out former par. (7) which read as follows: ``such option by 
its terms is not exercisable while there is outstanding (within the 
meaning of subsection (c)(7)) any incentive stock option which was 
granted, before the granting of such option, to such individual to 
purchase stock in his employer corporation or in a corporation which (at 
the time of the granting of such option) is a parent or subsidiary 
corporation of the employer corporation, or in a predecessor corporation 
of any of such corporations; and''.
    Subsec. (b)(8). Pub. L. 99-514, Sec. 321(a), struck out par. (8) 
which read as follows: ``in the case of an option granted after December 
31, 1980, under the terms of the plan the aggregate fair market value 
(determined as of the time the option is granted) of the stock for which 
any employee may be granted incentive stock options in any calendar year 
(under all such plans of his employer corporation and its parent and 
subsidiary corporation) shall not exceed $100,000 plus any unused limit 
carryover to such year.''
    Subsec. (c)(1). Pub. L. 99-514, Sec. 321(b)(2), substituted 
``paragraph (7) of subsection (b)'' for ``paragraph (8) of subsection 
(b) and paragraph (4) of this subsection''.
    Subsec. (c)(4). Pub. L. 99-514, Sec. 321(b)(1), redesignated par. 
(5) as (4) and struck out former par. (4) relating to carryover of 
unused limit.
    Subsec. (c)(5), (6). Pub. L. 99-514, Sec. 321(b)(1)(B), redesignated 
pars. (6) and (8) as (5) and (6), respectively. Former par. (5) 
redesignated (4).
    Subsec. (c)(7). Pub. L. 99-514, Sec. 321(b)(1), redesignated par. 
(9) as (7) and struck out former par. (7) which provided that for 
purposes of subsec. (b)(7) any incentive stock option be treated as 
outstanding until such option was exercised in full or expired by reason 
of lapse of time.
    Subsec. (c)(8). Pub. L. 99-514, Sec. 321(b)(1)(B), redesignated par. 
(10) as (8). Former par. (8) redesignated (6).
    Subsec. (c)(9). Pub. L. 99-514, Sec. 321(b)(1)(B), redesignated par. 
(9) as (7).
    Pub. L. 99-514, Sec. 1847(b)(5), substituted ``section 22(e)(3)'' 
for ``section 37(e)(3)''.
    Subsec. (c)(10). Pub. L. 99-514, Sec. 321(b)(1)(B), redesignated 
par. (10) as (8).
    1984--Subsec. (c)(9). Pub. L. 98-369, Sec. 2662(f)(1), substituted 
``section 37(e)(3)'' for ``section 105(d)(4)''.
    Subsec. (c)(10). Pub. L. 98-369, Sec. 555(a)(1), added par. (10).
    1983--Subsec. (b)(8). Pub. L. 97-448, Sec. 102(j)(1), substituted 
``granted incentive stock options'' for ``granted options''.
    Subsec. (c)(1). Pub. L. 97-448, Sec. 102(j)(2), substituted ``Good 
faith efforts to value stock'' for ``Exercise of option when price is 
less than value of stock'' as par. (1) heading and inserted sentence 
providing that, to the extent provided in regulations by the Secretary, 
a rule similar to that already enunciated in the paragraph applies for 
purposes of par. (8) of subsec. (b) and par. (4) of subsec. (c).
    Subsec. (c)(2)(A). Pub. L. 97-448, Sec. 102(j)(3), substituted 
``either of the periods'' for ``the 2-year period''.
    Subsec. (c)(4)(A)(ii). Pub. L. 97-448, Sec. 102(j)(4), substituted 
``granted incentive stock options'' for ``granted options''.


                    Effective Date of 1988 Amendment

    Amendment by Pub. L. 100-647 effective, except as otherwise 
provided, as if included in the provision of the Tax Reform Act of 1986, 
Pub. L. 99-514, to which such amendment relates, see section 1019(a) of 
Pub. L. 100-647, set out as a note under section 1 of this title.


                    Effective Date of 1986 Amendment

    Section 321(c) of Pub. L. 99-514 provided that: ``The amendments 
made by this section [amending this section] shall apply to options 
granted after December 31, 1986.''
    Amendment by section 1847(b)(5) of Pub. L. 99-514 effective, except 
as otherwise provided, as if included in the provisions of the Tax 
Reform Act of 1984, Pub. L. 98-369, div. A, to which such amendment 
relates, see section 1881 of Pub. L. 99-514, set out as a note under 
section 48 of this title.


                    Effective Date of 1984 Amendment

    Section 555(c)(1) of Pub. L. 98-369, as amended by Pub. L. 99-514, 
title XVIII, Sec. 1855(a)(1), Oct. 22, 1986, 100 Stat. 2882, provided 
that: ``The amendment made by subsection (a)(1) [amending this section] 
shall apply to options granted after March 20, 1984, except that such 
subsection shall not apply to any incentive stock option granted before 
September 20, 1984, pursuant to a plan adopted or corporate action taken 
by the board of directors of the grantor corporation before May 15, 
1984.''
    Amendment by section 2662 of Pub. L. 98-369 effective as though 
included in the enactment of the Social Security Amendments of 1983, 
Pub. L. 98-21, see section 2664(a) of Pub. L. 98-369, set out as a note 
under section 401 of Title 42, The Public Health and Welfare.


                    Effective Date of 1983 Amendment

    Amendment by Pub. L. 97-448 effective, except as otherwise provided, 
as if it had been included in the provision of the Economic Recovery Tax 
Act of 1981, Pub. L. 97-34, to which such amendment relates, see section 
109 of Pub. L. 97-448, set out as a note under section 1 of this title.


                             Effective Date

    Section 251(c) of Pub. L. 97-34, as amended by Pub. L. 99-514, 
Sec. 2, Oct. 22, 1986, 100 Stat. 2095, provided that:
    ``(1) Options to which section applies.--
        ``(A) In general.--Except as provided in subparagraph (B), the 
    amendments made by this section [enacting this section and amending 
    sections 421, 425 [now 424], and 6039 of this title] shall apply 
    with respect to options granted on or after January 1, 1976, and 
    exercised on or after January 1, 1981, or outstanding on such date.
        ``(B) Election and designation of options.--In the case of an 
    option granted before January 1, 1981, the amendments made by this 
    section shall apply only if the corporation granting such option 
    elects (in the manner and at the time prescribed by the Secretary of 
    the Treasury or his delegate) to have the amendments made by this 
    section apply to such option. The aggregate fair market value 
    (determined at the time the option is granted) of the stock for 
    which any employee was granted options (under all plans of his 
    employer corporation and its parent and subsidiary corporations) to 
    which the amendments made by this section apply by reason of this 
    subparagraph shall not exceed $50,000 per calendar year ans shall 
    not exceed $200,000 in the aggregate.
    ``(2) Changes in terms of options.--In the case of an option granted 
on or after January 1, 1976, and outstanding on the date of the 
enactment of this Act [Aug. 13, 1981], paragraph (1) of section 425(h) 
of the Internal Revenue Code of 1986 [formerly I.R.C. 1954] shall not 
apply to any change in the terms of such option (or the terms of the 
plan under which granted, including shareholder approval) made within 1 
year after such date of enactment to permit such option to qualify as a 
incentive stock option.''


                            Savings Provision

    For provisions that nothing in amendment by Pub. L. 101-508 be 
construed to affect treatment of certain transactions occurring, 
property acquired, or items of income, loss, deduction, or credit taken 
into account prior to Nov. 5, 1990, for purposes of determining 
liability for tax for periods ending after Nov. 5, 1990, see section 
11821(b) of Pub. L. 101-508, set out as a note under section 29 of this 
title.


             Treatment of Options as Incentive Stock Options

    Section 1003(d)(1)(B) of Pub. L. 100-647 provided that: ``In the 
case of an option granted after December 31, 1986, and on or before the 
date of the enactment of this Act [Nov. 10, 1988], such option shall not 
be treated as an incentive stock option if the terms of such option are 
amended before the date 90 days after such date of enactment to provide 
that such option will not be treated as an incentive stock option.''


           Plan Amendments Not Required Until January 1, 1989

    For provisions directing that if any amendments made by subtitle A 
or subtitle C of title XI [Secs. 1101-1147 and 1171-1177] or title XVIII 
[Secs. 1800-1899A] of Pub. L. 99-514 require an amendment to any plan, 
such plan amendment shall not be required to be made before the first 
plan year beginning on or after Jan. 1, 1989, see section 1140 of Pub. 
L. 99-514, as amended, set out as a note under section 401 of this 
title.

                  Section Referred to in Other Sections

    This section is referred to in sections 56, 421, 424, 1042, 6039 of 
this title.
