She Will Exercise Stock Options With a $200,000 Paper Gain. Her Tax Bill Could Arrive Before She Can Sell a Share

Picture an employee at a private company who plans to exercise her incentive stock options late in 2026. She pays $20,000 for shares worth $220,000 on the exercise date. On paper, she is up $200,000.

She hasn’t sold a share, and because the company is still private, she may have no way to sell one. If she still has those shares on December 31, that spread goes into the alternative minimum tax (AMT) calculation. One startup worker described the problem as money owed to the IRS coming with “no way to sell the stock to get the cash to pay the taxes.”

Holding Past December 31 Flips the Switch

For regular federal income tax, exercising an incentive stock option creates no ordinary income at exercise. The alternative minimum tax works differently. It treats the gap between the stock’s fair market value and the price paid as an adjustment to income under that system.

• Exercise price: $20,000
• Fair market value at exercise: $220,000
• Potential AMT adjustment: $200,000

Timing decides whether this matters. The IRS generally requires no adjustment if she sells the shares in the same year she exercises. Exercising in 2026 and holding into 2027 creates exposure.

A $200,000 Adjustment Needs a Full Return Before It Becomes a Bill

That $200,000 goes into the calculation, but it is not the amount owed. Actual AMT depends on other income, deductions, filing status, exemptions and regular tax. In 2026, a single filer’s AMT exemption is $90,100 and phases out at $500,000. Only a complete return can put a dollar figure on the bill.

Cash Goes Out Before Any Comes In

After exercising, she has spent $20,000, holds $220,000 in paper value and received $0 from sales. Any resulting tax must be paid with money from elsewhere.

A public-company employee can generally sell shares quickly. A private-company employee may face company restrictions, limited buyers, narrow tender-offer windows or no buyer at all. VC firm G Squared, which backs the likes of Anthropic, says the top companies stay private for longer. The firm, which recently closed a $2.3 billion fund focused on private secondary sales, notes that employees increasingly need secondary markets to convert shares to cash. Whether she can sell depends on her company and the specific deal.

If she pays AMT because of the exercise, some or all of it may generate a minimum-tax credit for later years, which can help eventually but does nothing for the cash needed next spring.

Where Social Security Fits Into an Option Exercise

The spread from exercising incentive stock options is exempt from Social Security and Medicare payroll taxes. That saves payroll tax but adds nothing to the earnings record Social Security uses to calculate future benefits.

The year she sells matters more if she is collecting benefits or will be soon. When she eventually sells, the gain counts in adjusted gross income. Benefits become taxable once combined income passes $25,000 for single filers or $32,000 for joint filers, and up to 85% may be taxed. Spreading sales over several years, or selling before she starts Social Security, can reduce the chance that one large gain makes more of her benefits taxable (we mapped it all out in our free Social Security Decision one-pager.)

Numbers to Pin Down Before She Signs the Exercise Form

1. The exercise price, which is the cash that leaves her account on day one and cannot be recovered if the company struggles.
2. The fair market value the company uses for tax purposes, which sets the spread size regardless of her valuation.
3. The resulting spread, which feeds the AMT calculation.
4. Whether she will hold past December 31. This decision turns the adjustment on or off.
5. Whether the company offers tender offers or secondary sales, and when the next window opens.
6. How the exercise changes projected AMT, estimated on a full draft return before she commits.

What’s hardest to undo is running these numbers too late. Once January comes with the shares still in her account, the holding decision is locked in, and filing season is too late to change it.

She can exercise options showing a $200,000 gain without receiving any of it in cash. For a private-company employee, that is the trap: the tax deadline can come before anyone is willing to buy her shares. The math could shift. Her income, her state’s tax rules and her company’s policies could all change it, so a projection built on her own numbers is worth more than any rule of thumb.

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