Written By:
Max Michalczik CFP® | Space & Defense
Kekoa Pfau ChFC® | Space & Defense

If you work for a publicly traded company, chances are your benefits package includes an Employee Stock Purchase Plan, or ESPP. It rarely gets the attention that a 401(k) match or an RSU grant gets, but for employees at aerospace and defense companies, an ESPP can become one of the more valuable pieces of a compensation package. It can also become a source of unnecessary risk if you never take a step back and think through how it fits into the rest of your financial picture.

What Is an ESPP and How Does It Work?

An ESPP lets you set aside money from each paycheck, typically through payroll deductions, to buy shares of your employer’s stock at a discount. Most plans run on a set schedule built around an offering period, which might last six or twelve months, broken into one or more purchase periods. At the end of each purchase period, your accumulated contributions are used to buy shares automatically. You do not place a trade or time the market. The plan does it for you on a fixed date.

The part that makes ESPPs interesting is the discount, and in many plans, a lookback provision. A lookback lets the purchase price be calculated using the lower of the stock price at the start of the offering period or the price at the end of it. Combined with a 15% discount, a lookback can turn a modest payroll deduction into a meaningfully discounted purchase, sometimes well below the current trading price.

How Much of a Discount Do Most ESPPs Offer?

The maximum discount allowed under a tax-qualified Section 423 plan is 15%, and most large employers use the full amount. Paired with a lookback provision, the effective discount can end up much larger than 15% if the stock has appreciated during the offering period. That said, plan design varies quite a bit from one company to the next. Some plans use a shorter offering period with no lookback. Others cap how much of your salary you can contribute, commonly somewhere between 10% and 15% of pay. Reading your specific plan document matters more than assuming your plan works like a coworker’s from a different company.

ESPP design can very one from another. Offering period length, whether a lookback applies, and the contribution cap as a percentage of pay are all set independently by each employer’s plan document. Before you decide how much to contribute, pull up your specific plan’s summary and confirm the discount structure, purchase dates, and any blackout periods tied to earnings releases or major program announcements.

What Is the 2026 Contribution Limit for an ESPP?

The IRS caps how much stock you can purchase through a qualified ESPP at $25,000 in fair market value per calendar year, measured as of the start of the offering period. This limit is set by statute under Section 423 of the tax code and does not adjust for inflation the way 401(k) or IRA limits do, so it has stayed at $25,000 for years and is expected to remain there in 2026. In practice, most employees never come close to this ceiling. Your plan’s own payroll deduction cap, often 10% to 15% of eligible compensation, is usually the more binding constraint on how much you can contribute.

Qualifying vs. Disqualifying Dispositions: Why the Holding Period Matters

How your ESPP shares are taxed depends heavily on when you sell them. A qualifying disposition requires holding the shares for at least two years from the offering date and at least one year from the purchase date. Meet both thresholds, and a portion of your gain gets more favorable tax treatment. Sell before either deadline passes, and the sale is a disqualifying disposition, which shifts more of the gain into ordinary income in the year of sale.

Neither outcome is automatically wrong. A disqualifying disposition sold immediately after purchase locks in the discount as a known, government-verified gain and removes market risk right away. A qualifying disposition can reduce the tax bill on that same block of shares, but it also means holding company stock for a year or more after purchase, which reintroduces the risk that the stock price moves against you before you sell.

How Are ESPP Shares Taxed When You Sell?

In a disqualifying disposition, the discount you received at purchase is taxed as ordinary income, reported through your employer, and any additional gain or loss from purchase to sale is treated as a short-term or long-term capital gain depending on how long you held the shares after buying them. In a qualifying disposition, the ordinary income portion is generally limited to the lesser of your actual gain or the discount available at the start of the offering period, with the remainder taxed as long-term capital gain.

For 2026, long-term capital gains are taxed at 0%, 15%, or 20% depending on your total taxable income, with the 0% bracket applying up to $49,450 of taxable income for single filers and $98,900 for married couples filing jointly. Gains above roughly $545,500 (single) or $613,700 (married filing jointly) are taxed at the top 20% rate. Higher earners should also plan for the 3.8% Net Investment Income Tax, which applies once modified adjusted gross income crosses $200,000 for single filers or $250,000 for married couples filing jointly. Stack an ESPP sale on top of RSU vesting or a bonus in the same year, and it is easy to push into a higher bracket without realizing it until tax season.

Should You Sell ESPP Shares Right Away or Hold Them?

There is no universal answer, but a few questions tend to guide the decision well:

• How much company stock do you already hold through RSUs, stock options, or a 401(k) that invests in employer stock?
• Does your household budget or a near-term goal depend on this money staying stable, or can you afford to ride out volatility?
• Would selling immediately push you into a materially higher tax bracket this year compared to spreading sales across future years?
• Do you have conviction in the company’s long-term prospects that goes beyond simply working there?

A common approach among employees at publicly traded companies is to sell ESPP shares soon after purchase to capture the discount as a locked-in gain, then reinvest the proceeds into a diversified portfolio. It is not the only reasonable strategy, but it tends to keep concentration risk in check, which matters more in this sector than people often assume.

Aerospace and defense stocks move on catalysts that are different from the broader market: contract awards or losses, launch outcomes, continuing resolutions and defense budget negotiations in Congress, and program-specific news. Newer or earlier-stage companies scaling a single space or advanced air mobility program can see sharper price swings around one contract or milestone than a larger, more diversified government services contractor. None of this means any particular company is a bad place to hold stock. It means the case for holding ESPP shares beyond the discount capture deserves the same scrutiny you would give any other investment decision.

What Is Concentration Risk, and Why Does It Deserve Extra Attention Here?

Concentration risk is what happens when too much of your financial life depends on one company. For an aerospace or defense employee, that dependency can stack up quickly: your paycheck comes from the company, your ESPP shares are in the company, your RSUs or stock options are in the company, and if your 401(k) offers company stock as an investment option, that might be layered in too. If the company hits a rough patch, whether from a lost contract, a program delay, or a broader defense spending shift, income and savings can take a hit at the same time.

This is not a reason to avoid ESPP participation. The discount is close to a guaranteed return that is hard to find anywhere else. It is a reason to have a plan for what happens to the shares after you buy them, rather than letting them accumulate by default year after year.

How Does an ESPP Fit Into a Broader Financial Plan?

An ESPP works best when it is evaluated alongside everything else tied to your employer, not in isolation. That means looking at your ESPP contributions next to your RSU vesting schedule, any outstanding stock options, your 401(k) allocation, and your overall savings goals. It also means being deliberate about timing. Selling ESPP shares, RSU shares, and exercising options all in the same month can create a tax bill that catches people off guard, while spacing sales out across the year or across multiple years can smooth things considerably.

A financial advisor who understands equity compensation and the dynamics of the space and defense sector can help you build a selling strategy, estimate the tax impact before you file, and figure out how much company stock exposure makes sense given your total financial picture.

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This content is for educational and informational purposes only and should not be considered personalized investment, tax, or legal advice. The information provided is general in nature and may not apply to your individual circumstances. All investments involve risk, including the potential loss of principal.
The Freyr Group, LLC does not provide legal or tax advice. Any references to tax-related topics are provided for general informational purposes only, and individuals should consult with a qualified tax professional regarding their specific situation.
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