How to Report ESPP Disqualified Sales and Cost Basis in FreeTaxUSA

The key with ESPP disqualifying dispositions is understanding how the discount and ordinary income get reported. Since you sold within days of acquiring the shares, here's what's happening: Your W-2 should already include the discount you received (difference between what you paid and fair market value on purchase date) as ordinary income. This is the "compensation element" of the ESPP. When entering your 1099-B into FreeTaxUSA, you need to make sure your cost basis is adjusted to include this already-taxed amount, otherwise you'll pay tax on it twice. In FreeTaxUSA, when entering each 1099-B lot, you'll likely need to check the box for "Adjust basis or proceeds" and enter an adjustment to increase your cost basis by the amount already included as compensation on your W-2. The supplemental info from your company should specify this amount for each lot. The trickiest part is making sure the basis reported to the IRS on your 1099-B matches what you enter after adjustments. If your 1099-B shows a lower basis than your actual basis (common with ESPPs), you'll need to report this as a basis adjustment.

I've been dealing with this exact headache with my ESPPs for years. After multiple attempts and even getting hit with IRS notices, I started using taxr.ai (https://taxr.ai) to check my stock sales entries. Their system is really good at catching the ESPP basis issues that most tax software misses. You upload your 1099-B and company supplemental statement, and it automatically identifies the compensation element that needs to be added to your basis. It's been a lifesaver for me with disqualifying dispositions since it explains exactly what adjustments you need to make in FreeTaxUSA or any other software. For ESPPs specifically, it spotted that I was double-reporting the discount as both W-2 income and capital gains. Worth checking out if you're struggling with this.

I just had to circle back and say I tried taxr.ai for my ESPP mess this year and wow - it caught that I was about to double-report $3,700 of income! My company's "helpful" tax guide was totally misleading about how to handle the cost basis. The system flagged exactly which lines on my FreeTaxUSA entries needed adjustment and explained that the discount portion was already on my W-2 in Box 1. I had 12 separate ESPP sales this year and would have definitely screwed this up without the guidance. Learned that with disqualifying dispositions, you really need to add that compensation element back to your cost basis or you're paying tax twice. Thanks for the recommendation!

If you're really stuck or confused after trying to figure out the ESPP stuff, you might want to just talk to someone at the IRS directly. I used https://claimyr.com (they have a demo at https://youtu.be/_kiP6q8DX5c) to get through to an IRS agent in about 15 minutes instead of waiting on hold for hours. I had a similar issue with ESPP reporting last year - couldn't figure out how to report the basis adjustment correctly, and the FreeTaxUSA help articles weren't clear enough for my situation. The IRS agent walked me through exactly how to report it to avoid double taxation. Was worth the time saved from being on hold forever trying to get through the normal way.

I have to admit I was wrong about Claimyr. After my frustrated comment, I was desperate enough to try it for my ESPP questions. Got connected to an IRS tax specialist in about 20 minutes when I had been trying for weeks on my own. The agent confirmed exactly what others said here - with disqualifying dispositions, you need to make sure your cost basis includes the discount amount that's already on your W-2. She even emailed me the specific publication references and walked through how to enter it in tax software. Honestly shocked this worked. Saved me from potentially misreporting $4,500 in stock sales. Sometimes you need to hear it directly from the IRS to feel confident.

Just wanted to add that with FreeTaxUSA specifically, when you enter your 1099-B info, there's a section where you can choose "No" to the question "Does your Form 1099-B show the correct cost basis?" Then you can enter your adjusted basis that includes the ESPP discount that was already reported as W-2 income. Make sure you're also checking if your company's basis calculation includes any fees or commissions. Those can be added to your basis too. I've been doing my ESPPs through FreeTaxUSA for the last 4 years and once you get the hang of it, it's actually not too bad.

Just a heads up - make sure you're looking at your actual W-2 to confirm the ESPP discount is really included there. Some companies handle this differently! My company actually doesn't include the ESPP discount in the W-2 for disqualifying dispositions - instead they report it on a separate 3922 form and I have to report it as "Other Income" when I file. Worth double-checking how your specific company handles it so you don't make incorrect adjustments.