One form of compensation that many publicly traded companies use to compensate their employees is granting stock in their company in the form of RSU’s. It is a way for companies to offer stock-based compensation to their employees and as the employer, a way to incentivize an employee to stay with a company and contribute to the growth. Below is a summary of how RSU’s work, but keep in mind that company plans vary so it is important to read through a Summary Plan Description to understand the specifics of your RSU plan.
What is a RSU?
A Restricted stock unit is compensation issued to an employee by an employer in the form of company stock which once vested, becomes income to the employee.
There are two important dates to be aware of when it comes to restricted stock. The first is the grant date; which is the date the shares are pledged to you. The second is the vest date which is the date that the employee gains full ownership of the stock and can do as they wish with the shares. It’s important to note that RSU’s have no tangible value until they vest. Vesting can vary from company to company but typically follows a vesting schedule of a few years. Some companies use a specific number of years, and other vest gradually every year.
What are the tax rules?
RSU’s are picked up as income the date that they vest. There are few options that an employer may or may not give in regards to taxes.
- Cash payment which an employee would use cash to pay the taxes and no shares would be sold
- Withholding to cover taxes which leaves the employee with a balance in shares of stock.
- The shares are sold and a portion of the balance is withheld for taxes and the remaining is given in cash.
We typically see the second option as the default where taxes are withheld for Federal, State, Social Security, and Medicare. After taxes are withheld the employee is left with the balance in shares. It’s important to check the default withholdings to ensure you have the correct percentages so there are no surprises in April.
What to do once shares Vest?
It is important to understand that the answer to this question depends on each employee’s financial situation. It is helpful to have a financial plan in place and have a strategy to implement when shares vest. Upon vesting there are three options:
- Hold – This is the “Do Nothing” option where you receive the shares, pay the income tax and hold onto the shares. Keep in mind that once the shares vest that is your cost basis or baseline. If the stock appreciates and you sell, there will be either income tax or capital gains tax due on the portion that exceeds your cost basis. If your sell the shares at an amount lower than your cost basis, then a loss is locked in and you would have paid taxes on a higher amount at vesting.
- Sell –Sell the shares at vesting and take the proceeds in cash. This option would be appropriate if cash is needed to fund upcoming expenses or to fund a certain short term goal.
- Diversify – Selling the shares and redirecting the proceeds to a diversified portfolio is a great option for a number of reasons. Holding concentrated positions in one stock could present more risk and is often times synonymous with having “All your eggs in one basket.” Diversifying gives you the ability to align your proceeds with your overall investment strategy.
If you have Restricted Stock Units and need help analyzing and developing a strategy, please reach out and we would be more than happy to help.