Planning Point: Although technically ISOs are exempt from Section 409A, they are required to be issued at fair market value at the date of grant in order to qualify as an ISO. If they are not issued at fair market value at the date of grant, they become an NQSO that has not been issued at fair market value and thereby subject to Section 409A, because they fail to meet the requirements for the Section 409A exemption. Therefore, the planner must make certain that the ISO, like an NQSO, is issued at fair market value at the date of grant in order to avoid the application of Section 409A to the stock, which is not desirable, since it will loss the exemption and fail 409A with the imposition of 409A tax and penalties.
1. IRC § 422; Treas. Reg. § 1.422-2.