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Click here for the full text of this decision FACTS:On January 31, 2000, Ricardo Cidale exercised stock options granted by his employer RealNetworks by borrowing funds from his broker, Salomon Smith Barney (Smith Barney). He paid $356,256 to purchase 24,000 shares of stock, which then had a fair market value exceeding $3 million. Because an employee who exercises stock options must pay withholding tax on the difference between the exercise price and the fair market value of the stock on the date the options are exercised, the $3,416,256 difference created a tax liability of $1,010,811.79. Cidale’s tax liability plus the stock purchase price meant he had to pay RealNetworks $1,367,067.79 to exercise his stock options. Pursuant to the margin loan agreement between Cidale and Smith Barney, the broker paid this fee to RealNetworks with a check drawn on Cidale’s margin account. The margin agreement stated that Cidale maintained all incidents of ownership of the shares, including the right to sell, vote and pledge the shares, and to receive dividends subject to the broker’s security interest in all of Cidale’s accounts. Under the agreement, Smith Barney could sell the stock as collateral to pay off Cidale’s loan, but Cidale and his wife remained personally liable for any deficiency in the event that proceeds for the shares did not repay the loan. The Cidales reported the stock options as income for the 2000 tax year. In July 2002, they filed a Form 1040X and an amended tax return, seeking a refund of federal income taxes paid in the final amount of $274,941 plus interest. They claimed that the taxes should have been assessed when the loan was repaid by liquidation of Cidale’s interest in his RealNetworks stock in September 2000, rather than on the date he exercised his stock options in January 2000. They argued that no taxable income arose at the date of exercise of the stock options, because he borrowed the purchase money from Smith Barney. Needless to say, the stock was worth less and the resulting tax would have been less if the taxable transfer date was in September rather than January. The IRS rejected the refund claim. Ricardo and Leslie Cidale sued the United States to recover a refund based on their theory about the exercise date for the stock options. After the district court ruled against them, they appealed. HOLDING:Affirmed. Under Internal Revenue Code �83, the court stated, an employee generally is taxed when he exercises nonqualified stock options if the shares have been transferred to and have substantially vested in the employee. The tax equals the amount by which the fair market value of the shares exceeds the exercise price. The Cidales, the court stated, argue that no taxable transfer occurred when Ricardo Cidale exercised stock options with margin debt because his own capital was not at risk. They assert that he did not have beneficial ownership of the shares until the margin loan was repaid because he did not bear any risk of loss. Accordingly, they argue that they the IRS should have taxed them when the shares were sold to repay the margin debt. The U.S. Tax Court, the court noted, recently rejected all of the arguments that the Cidales now assert. In Racine v. Commissioner, 92 T.C.M. 100, the tax court held that a taxable transfer occurred under Internal Revenue Code �83 when the taxpayer exercised her stock options because the shares were transferred and she acquired beneficial ownership of the shares, even though she purchased the shares through a margin loan. The court stated that the district court properly determined that the Cidales owed taxes on Ricardo Cidale’s stock options on the date the options were exercised, not the date on which he repaid the margin loan. The RealNetworks shares were transferred and substantially vested in Cidale on the date of exercise, because he then acquired beneficial ownership of the shares and had the right to receive any dividends and vote the stock, the court stated. His capital, the court stated, was at risk under the terms of the margin agreement. Accordingly, the court held, a taxable event occurred when Ricardo Cidale exercised his stock options with margin debt. OPINION:Jones, C.J.; Jones, C.J., and Davis and Garza, J.J.

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