The IRS recently released a memorandum from the Office of Chief Counsel which takes the position that the IRS can enforce a tax levy by seizing a taxpayer’s executive stock options regardless of the contractual or statutory transfer restrictions applicable to such options.

In this case, the taxpayer was an executive who had been granted both incentive stock options (“ISOs”) and non-statutory stock options (“NSOs”) during his employment with the company. Pursuant to the rules for ISOs under Section 422 of the Internal Revenue Code, the ISO plan provided that the ISOs could only be transferred by will, the laws of descent and distribution or pursuant to a qualified domestic relations order (“QDRO”).  During the taxpayer’s lifetime, the options could only be exercised by the taxpayer, his guardian or legal representative or the taxpayer’s transferee pursuant to a QDRO.  The NSO plan provided that the NSOs were subject to essentially the same transfer restrictions as the ISOs. 

The company later terminated the taxpayer’s employment pursuant to a separation agreement that provided for the taxpayer’s options to become fully vested.  After the taxpayer’s termination, the IRS served a notice of levy on the company.

In its memorandum analyzing this case, the IRS found that the contractual transfer restrictions on the NSOs do not bar the IRS from seizing and selling property given its authority under the Internal Revenue Code to levy on all property or rights to property belonging to the taxpayer.  While the IRS acknowledged that ISOs must by their terms be subject to transfer restrictions, it also found that the IRS is not bound by the restrictions on transferability that apply to the taxpayer.  The IRS further asserted that these restrictions do not prevent the IRS from seizing the options and selling them to a third party.

While the IRS memorandum gives support for its ability to seize the options, the memorandum also seems to suggest that the IRS has greater rights in the seized property than the taxpayer.  This raises a variety of concerns.  For example, this ruling suggests that the IRS can sell stock options in a privately-held company to a third party.  It is not apparent that the IRS contemplated all of the potential consequences from this ruling. 

Although a Chief Counsel Advice memorandum may not be used or cited as precedent, it serves as guidance regarding the IRS position regarding an issue.