What makes ESPP qualified? Well you have to hold onto it for more than 1 year after you purchase it and 2 years after you were granted it.

The main difference between qualified and disqualified ESPP is how much gets taxed as ordinary income and how much gets taxed as long term capital gains.

You can have held onto ESPP for over 1 year since purchase but if it hasn’t been 2 years since grant date, it is still disqualified. So it can be disqualified and Long Term Capital gain.

Any stocks held over 1 year is Long Term.

Assuming the FMV of the stock on grant date is lower than FMV on purchase date, holding onto the stock until it is qualified could make a big difference in terms of taxes.

Most ESPP have a 15% discount and a lookback provision. The way the lookback provision works is that the company will compare the FMV on grant date vs FMV on purchase date and whichever is lower will get the 15% discount.

So if Grant Date FMV is $50 and Purchase Date FMV is $70, the price you will pay for the stock is $50 X .85 = 42.5

EXAMPLE:

Assuming 15% discount and lookback provision:

Grant date FMV   =           $9,000 
Purchase date FMV  =     $10,000
Sale date FMV =                $16,000

With the lookback provision, the amount you would pay for the stock is $9000 X .85 = $7650

Now when you sell it, here are the scenarios: 

1. If it is Qualified ESPP, the amount that would be taxed as ordinary income would be  9000 – 7650 = 1350
The amount that would be taxed as Long Term Capital Gain is 16000 – 9000 = 7000

2. If it is Disqualified ESPP, the amount that would be taxed as ordinary income would be 10000 – 7650 = 2350
The amount that would be taxed as Long Term Capital Gain is 16000 – 10000 = 6000

3. If you held onto the stocks for less than 1 year, it would be the same as #2 but Short Term Capital gain.