Phantom Stock Options – Accounting & Tax Treatment

July 20, 2015 Published by
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A phantom stock option is a bonus tax treatment plan where the amount of the bonus is determined by reference to the
increase in value of the shares subject to the option. Shares are not actually issued or transferred to the option-
holder when an option is exercised, but rather the right to receive an award based on the value of the company’s shares. Phantom stock plans are typically used in private companies where owners wish to motivate and reward employees based on long-term value creation, and restrict the actual ownership of the company’s shares.

Accounting Treatment for Phantom Stock Plans

An annual valuation needs to be completed at the year-end to determine if there has been an increase in value in accordance with the phantom stock plan’s formula.

If the value increases then an accounting is recorded as compensation expense together with the liability for future payment. These accounting rules are under Section 3870 o]’ The CICA Handbook.


  • ABC Corp established a Phantom Stock Plan (PSP) program on January 1, 20XX
  • Plan entitles employees to receive cash at the date of exercise for the difference between the market price of the stock and the pre-established price of S20
  • 5,000 PSP shares
  • Service period required is two years
  • Market price of the stock is 522 on December 31, 20XX and ~;29 on December 31, 20xl
  • PSP option is exercised on January 1, 20×2

Compensation expense for 20xx and 20xl is computed as follows:

Analysis of compensation expense on 12/31/xx:

Market price $22
Price at grant date 20
Increase in value 2
Number of PSPs 5,000
Total increase in PSPs value 10,000
Portion recognized in this period 50%
Compensation expense $5,000


Analysis of compensation expense on 12/31/xl : Market price

Market price $29
Price at grant date 20
Increase in value 9
Number of PSPs 5,000
Total increase in PSPs value 45,000
Previously recognized compensation 5,000
Compensation expense $40,000


When the PSP options are exercised on January 1, 20×2, the total payment would be $45,000 ($5,000 ÷ $40,000).

Corporate & Individual Tax Treatment

Options granted for tax purposes do not coincide with the accounting treatment.

The compensation expense recorded on the financial statements will be added back for tax purposes. The expense will only be treated as a tax deduction the year the PSP option is exercised.

If the employee chooses to cash in the $45,000 PSP shares, this amount received must be included as employment income and the company will receive a tax deduction.

For more information about phantom stock options and accounting services, contact Hogg, Shain & Scheck today. ​