Restricted Stock Units

Today, we are going to explore Restricted Stock Units (RSUs). Many private and publicly traded companies grant RSUs to employees as part of their compensation plan. RSUs incentivize employees to stay with a company for several years while also working toward the common goal of pushing a company’s stock price higher. According to a 2020 report from Foley, “RSUs have been used for decades, but their popularity has increased dramatically in the last 10-20 years. In a recent survey of 325 companies, 72% reported using RSUs in their long-term incentive compensation programs compared to only 47% ten years earlier and 4% 21 years earlier”.

RSU grants are considered “restricted” because they are subject to a vesting schedule. Usually, in order to receive all of the shares, you must stay with the company for several years. Each vesting period is determined by the employer and typically comes in 2 forms. Graduated vesting or Cliff vesting. Graduated could be 25% per year over 4 years or 20% per year over 5 years. Cliff vesting would mean ALL your shares vest in a particular year.

Example

To understand RSU vesting, let’s look at an example. In this example, we will assume that Adam just received an employment offer from ABC Company to start working on 1/1/2021. As a part of his offer letter, ABC Company decides to grant Adam 500 shares of restricted stock based on a 5-year vesting schedule. Therefore, Adam will receive 100 shares every one-year anniversary for the next 5 years, so long as he stays with the company.

Restricted Stock Units

Tax at grant

When you are granted RSU’s, there are no tax implications. You would pay tax if you elect a section 83(b) (we will be writing a separate blog on this).

Tax at vesting

Upon vesting (also known as “date of delivery”), the fair market value of the stock is treated as taxable compensation. Taxable compensation is subject to Federal Taxes, Employment Taxes, Social Security/Medicare, and State/Local taxes. Note that taxes are owed whether the stock is sold or not. Future performance of a stock is never certain but for this example we are going to use $22 per share after 1 year of employment. In the above example, Adam would owe ordinary income of $2,200 (100 shares multiplied by the $22 stock price at vesting) on the 100 shares that vest after one year of employment.

Tax at sale

In addition, if Adam decides to hold the stock after it vests and then sell his shares, any increase above the vesting price would be considered a capital gain.

Capital gains come in two forms:

• Short-term capital gains: an investment you hold for less than one year is taxed as ordinary income

(the same rate as wages- up to 37% under current law).

• Long-term capital gains: a more favorable capital gains rate is applied to an investment you hold for one year or more

(as low as 0%, up to 23.8% max).

If Adam sells the stock within one year of the vesting date, any price increase above $22 vesting price would be subject to short-term capital gains. Let’s assume that Adam decides to sell his 100 shares 11 months after the vesting date. At this time, ABC Company stock is worth $30 per share. Because he did not hold the stock for one year after vesting, Adam would owe short-term capital gains (taxed as ordinary income) on $800 (($30 current price – $22 vesting price)*100)). If Adam would have held the stock for 12 months or longer before selling, he would be subject to more favorable tax rates. In this case, he only had to wait another month before benefiting from long-term capital gain rates. Here are the 2021 long-term capital gains rates according to current law.

Withholding

Once RSU shares vest, the taxable income on your paystub will equal the number of shares multiplied by the vesting price. Typically, employers will automatically withhold additional taxes from your normal salary so that you aren’t hit with a surprise tax bill come April 15th. Some companies even allow you to “tender” shares. Tendering your shares means that you sell a portion of your shares back to the company in order to cover the taxes. This may be a good option for those who don’t want to go out-of-pocket for the tax liability.

Risks

It’s not uncommon for RSUs to account for most of an individual’s net worth. Employees often have a hard time selling company stock either due to an emotional tie or a biased outlook on the company. This can lead to ignoring risks and only focusing on the company’s positive attributes. When it comes to investing, it’s important to take an unbiased approach and to double check any potential blind spots. A good rule of thumb is to have less than 10% of your net worth held in your company’s stock.

 

RSUs can help you build your wealth through your employer outside of typical retirement accounts. More and more companies are turning to RSUs to reward and retain their workforce. However, it’s important to remember that timing is critical in handling RSUs since tax implications can often catch employees by surprise. Be on the lookout for an upcoming blog where we will talk about a Section 83(b) election as an effective way to minimize a future tax liability with Restricted Stock Units.

If you have any questions, please reach out to our team here at Taylor Hoffman!

Contact Us!

Disclosures1:

1Taylor Hoffman is an SEC registered investment adviser with its principal place of business in the State of Virginia. Any references to the terms “registered investment adviser” or “registered,” do not imply that Taylor Hoffman or any person associated with Taylor Hoffman have achieved a certain level of skill or training. Taylor Hoffman may only transact business in those states in which it is registered /notice filed, or qualifies for an exemption or exclusion from registration /notice filing requirements. For information pertaining to the registration status of Taylor Hoffman or for additional information about Taylor Hoffman, including fees and services, please visit www.adviserinfo.sec.gov. The information contained herein is provided for informational purposes, represents only a summary of the topics discussed, and should not be construed as the provision of personalized investment advice or an offer to sell or the solicitation of any offer to buy any securities. The contents should also not be construed as tax or legal advice.  Rather, the contents including, without limitation, any forecasts and projections, simply reflect the opinions and views of the author. All expressions of opinion reflect the judgment of the author as of the date of publication and are subject to change without notice. There is no guarantee that the views and opinions expressed herein will come to pass. This document contains information derived from third party sources.  Although we believe these third party sources to be reliable, Taylor Hoffman makes no representations as to the accuracy or completeness of any information derived from such third-party sources and takes no responsibility therefore. Taylor Hoffman is not a Public Accounting firm, and the information contained herein should not be construed as tax advice. Rather the contents included are a reflection of the view and opinions of the author. There is no guarantee that the information provided fits every situation, and individuals should consult their tax advisor for more specifics. Taylor Hoffman is not a law firm, and the information contained herein should not be construed as legal advice. Rather the contents included are a reflection of the view and opinions of the author. There is no guarantee that the information provided fits every situation, and individuals should consult their attorney for more specifics.