## Facts

- Michigan Chemical Corporation adopted a 1944 plan allowing “key employees” to buy company stock at $5 per share through nontransferable options conditioned on continued employment and performance.
- Philip J. LoBue, a division sales manager, received three option grants over three years covering 340 shares, described as recognition of his contributions and as an incentive tied to future results.
- In 1946 and 1947, LoBue exercised the options, paying $1,700 for stock worth $9,930 at delivery, producing an $8,230 bargain element.
- The corporation deducted the $8,230 as an expense; LoBue did not report it as income.
- The Commissioner assessed a deficiency, treating the bargain element as taxable compensation under § 22(a) of the Internal Revenue Code of 1939.

## Issues

1. Whether an employee’s economic benefit from buying employer stock below fair market value under an employment-related option is taxable income under § 22(a), even if the employer also sought to give the employee a “proprietary interest.”
2. If taxable, whether the gain is measured at the time the option is granted or when it is exercised and the stock is purchased.

## Decision

- The Supreme Court reversed and remanded.
- The bargain element received through exercise of the employer-granted options was taxable compensation under § 22(a).
- The taxable gain is measured by the difference between the option price and the stock’s fair market value at exercise, not at grant.
- On remand, the Tax Court could consider whether the delivery of promissory notes completed the purchase for timing purposes.

## Legal Principles

- Section 22(a) is construed broadly to tax all economic gains unless a specific statutory exemption applies.
- A transfer of employer stock to an employee for less than fair market value, motivated by the employer’s desire to reward or induce better services, is “compensation for personal service” regardless of form.
- Characterizing an employee stock option as conferring a “proprietary interest” does not create a nonstatutory exclusion from gross income.
- The bargain element in such an option is generally realized and measured when the option is exercised and the employee acquires the stock.

## Conclusion

The Court held that an employee who exercises an employer-related stock option and acquires stock at a discount realizes taxable compensation equal to the spread between fair market value and the exercise price at the time of exercise, notwithstanding any employer purpose to make the employee an owner.


Commissioner v. LoBue, 351 U.S. 243 (1956)