The stock option backdating scandal has been widely covered for public companies in the last few years.

tax consequences of backdating options-4

Fifty-two companies currently under criminal investigation. Moreover, the company avoids having to expense the options as current compensation, thus increasing earnings in the near term.

As a consequence, the option is immediately profitable, or "in the money," to the optionholder.

All stemming from the practice known as "options backdating." Options backdating occurs when a company issues stock options on one date, but reports in its financials an earlier issue date to create a "strike" or exercise price equal to the earlier date's lower price.

Another consequence is that the company underrepresents the real nature of an executive's compensation, perpetuating the myth that options are performance-based incentive compensation.

The backdating problem was first highlighted by Professor Erik Lie of the University of Iowa, who published his initial study in 2004.

Professor Lie concluded that the robust profitability of so many options was statistically impossible absent some artificial influence such as backdating.

Subsequently, the Securities and Exchange Commission (SEC) took an interest, followed by the securities plaintiffs' bar and many corporations. The practice of options backdating, apparently widespread from 1996 through 2002, is widely believed to have been short-circuited by the enactment of Sarbanes-Oxley in 2002.

Further, it poses that employees of private companies may be motivated to manipulate the exercise date of stock options in an attempt to dodge tax payments.

It also summarizes certain accounting, tax, securities and governance implications of illegal backdating practices for private companies and concludes with some recommendations for eliminating backdating problems for such companies.

Johnson, Leigh Redd and Rudolph, Holly R., Stock Option Backdating: Implications for Private Companies (2007).

Journal of Accounting, Ethics & Public Policy, Volume 8, No.