What You Need To Know About Restricted Stock Units (RSUs)
Welcome, everyone. My name is Tan and I am an independent CERTIFIED FINANCIAL PLANNER™ practitioner. Today educational video is on restricted stock units (RSUs).
When your company gives you restricted stock units (RSUs), you don’t actually receive the company stock. The word “units” means you exchange “units” for the actual company stock. The word “restricted” means there are requirements you have to meet. It could be based on the length of employment or performance goals.
With RSUs, no shares are issued to you at grant. The shares are delivered to you at vesting and that is income to you.
RSUs are always worth something unless the stock price drop to $0.
For example, the company grants you 1,000 RSUs. At vesting, the stock price is $100 per share. 1,000 shares X $100 = $100,000.
The stock price on the grant date does not matter. The stock price matters at vesting because you have full control of the shares. Which means you can sell the shares and get cash for it.
RSUs are an unfunded promise from the company to you stating the company will give you X number of shares if you satisfied the vesting conditions.
During the restricted period/vesting period
- RSUs have no shareholder voting rights and normally do not receive dividends.
- If the company pays dividends on outstanding shares, dividends may be deferred for additional units or cash when the shares are delivered to you. It’s in the plan agreement if the company pays dividends equivalent. You can also check with your Human Resource Department.
- Restricted stock units and restricted stock are different. With restricted stock, during the restricted period/vesting period, dividends are paid and you have voting rights.
- Restricted Stock Units ≠ Restricted Stock
Vesting schedule
- Cliff vesting. You receive all the shares at once, such as you receive all the shares in 3 years.
- Graded vesting. You receive shares at regular intervals until you receive all the shares.
- Hybrid of cliff and graded vesting. A combination of some shares upfront then shares at regular intervals until you receive all the shares.
Tax withholding methods starting with the highest risk due to a concentrated stock position
- Cash Transfer: You give your company the money to pay for the taxes. All of the vested shares will be deposited to your brokerage account.
- Net Share Settlement, Share Surrender, Share Withholding, Net Share Issuance, or Net Settlement: Your company will keep shares equal to the taxes withholding then the remaining shares will be deposited to your brokerage account.
- Sell to Cover or Selling Shares: The plan will sell enough shares to cover the tax withholding and the remaining shares will be deposited to your brokerage account.
- Same Day Sale: The plan will sell all of the shares on the vesting date. After subtracting tax withholding, the net cash will be deposited to your brokerage account.
Questions to ask your employer so you can truly understand your RSUs
- What is my vesting period?
- Is it how long I have to be with the company and/or based on my performance?
- When and how can I be fully vested?
- What happens if there are major company events like a merger or acquisition?
- What happens if I were to leave or lose my job, become disabled, die, or retire?
- What are the tax withholding?
- Can I increase or decrease the tax withholding?
- Do I have restricted stock and/or restricted stock units?
- When the shares are vested, how can I have access to it?
- If the company pays dividends, do I get it and how does it work?
- Can I designate a beneficiary?
- Am I expected to receive more RSUs in the future? If so, around how many shares or dollar value?
- How can I get more RSUs?
Your employer might tell you to read the plan agreement and you want to tell them that you read the plan agreement and you want to confirm with them. If your employer cannot answer the questions, ask them who can?
When you sell the stock, ask a qualified tax preparer if you need to file Form 8949 and Schedule D on your tax return. Chances are, you do have to file it (IRS 1).
The delivery of shares occurs at vesting. The vesting can be graded vesting which means vesting occurs over a period of time or cliff vesting which means the shares are delivered all at once on a specific date.
No shares are issued until the time of delivery.
Some RSU plans let you defer the delivery of the shares so you can defer ordinary income tax. You cannot defer the taxes if the RSUs are delivered to you.
Dividend
“Dividends on restricted stock are reported on your W-2 as wages (unless you made a Section 83(b) election at grant) and are not eligible for the lower tax rate on qualified dividends until after vesting (MyStockOptions.com 1).”
Section 83(b) election
- When you make a 83(b) election within 30 days from the date of grant, you can recognize ordinary income on the value of the stock based on the date of grant instead at vesting.
- Restricted stock can be taxed on the value of the shares at grant instead of at vesting because they are considered "property" within the Internal Revenue Code Section 83.
- You do NOT have this option with RSUs because they are NOT considered "property" within the Internal Revenue Code Section 83.
- Be careful when making 83(b) election because you pay the taxes at grant and your stock might not vest (you didn’t hit your goals or you left the company before the shares are vested).
- “Restricted Stock Units are not considered property for purposes of IRC §83 since no actual property has been transferred, and therefore an IRC §83(b) election cannot be made with respect to the grant of a Restricted Stock Unit (IRS 2).”
Taxation summary from MyStockOptions.com
- “FICA taxes, including the 1.45% Medicare tax (plus the 0.9% additional Medicare tax for certain high-income taxpayers), is due at the vesting date. These arrangements allowing the deferral of the date when awards are taxed must comply with the deferred compensation rules of IRC Section 409A (MyStockOptions.com 2).”
- The Federal Insurance Contributions Act (FICA) is a federal law that requires withholding of three separate taxes from the wages, 6.2% Social Security tax, 1.45% Medicare tax (the “regular” Medicare tax), and 0.9% Medicare surtax for high-income earners.
Taxation summary from Charles Schwab
“With RSUs, you are taxed when the shares are delivered, which is almost always at vesting. Your taxable income is the market value of the shares at vesting. You have compensation income subject to federal and employment tax (Social Security and Medicare) and any state and local tax. That income is subject to mandatory supplemental wage withholding. Withholding taxes, which for U.S. employees appear on Form W-2 along with the income, include the following:
- federal income tax at the flat supplemental wage rate, unless your company uses your W-4 rate
- Social Security (up to the yearly maximum) and Medicare
- state and local taxes, when applicable (Schwab)”
Taxes
Taxed at vesting.
- You do not have a tax liability when RSUs are granted to you.
- You have a tax liability when the RSUs are vested by reporting the income based on the fair market value of the stock.
Taxed when selling the stock.
- The change after the vesting date is considered capital gain or loss. Short-term or long-term depending on the holding period.
- If you sell the stock at a higher price than the value at vesting, you have a capital gain.
- If you sell the stock at a lower price than the value at vesting, you have a capital loss.
- If you sell the stock after a year (1 year + 1 day), that is considered long-term.
- If you sell the stock within a year, that is considered short-term.
- The most favorable tax treatment is long-term capital gains.
- If you have a capital loss. “Losses on your investments are first used to offset capital gains of the same type. So short-term losses are first deducted against short-term gains, and long-term losses are deducted against long-term gains. Net losses of either type can then be deducted against the other kind of gain. So, for example, if you have $2,000 of short-term loss and only $1,000 of short-term gain, the net $1,000 short-term loss can be deducted against your net long-term gain (assuming you have one). If you have an overall net capital loss for the year, you can deduct up to $3,000 of that loss against other kinds of income, including your salary and interest income, for example. Any excess net capital loss can be carried over to subsequent years to be deducted against capital gains and against up to $3,000 of other kinds of income. If you use married filing separate filing status, however, the annual net capital loss deduction limit is only $1,500 (TurboTax gain/loss).”
- You should get a 1099-B from your broker.
Summary
- At grant = no tax.
- At vesting = regular income tax, Medicare tax, and Social Security tax.
- At sale = short-term or long-term and gain or loss depending on the holding period and sale price.
Strategies to consider
- Sell the RSUs once they are vested then use the money to build a diversified investment portfolio, pay debts, fund a goal because RSUs are taxed as soon as they vest.
- Hold the company stock and use option contracts to mitigate the risks.
- Hold the company stock and build a portfolio around the company stock.
- If you want to hold the company stocks, you should understand the risks of investing in individual stocks. I made a video on the risks of investing in individual stocks and you can check it out at tanphan.com/blog.
Take advantage of the volatility in the stock price
- If you can sell certain shares at a loss, it’s advantageous to sell the shares and realize the loss.
Why?
- Lower your tax burden.
- Diversifying away from a concentrated stock position.
- Converting stocks into cash.
- Capital losses offset capital gains then up to $3,000 from capital losses can offset ordinary income then remaining losses can carry forward into the future.
- If you really like your company stock, you can buy it back later, but be careful of the wash sale rule.
This video is for educational only and tax law changes. You should talk to a professional before making an informed decision.
Thank you for watching. This is Tan. Your trusted advisor.
References:
IRS 1 - https://www.irs.gov/instructions/i8949
IRS 2 - https://www.irs.gov/businesses/corporations/equity-stock-based-compensation-audit-techniques-guide
MyStockOptions.com 1 - https://www.mystockoptions.com/articles/the-great-benefits-of-restricted-stock
MyStockOptions.com 2 - https://www.mystockoptions.com/articles/the-great-benefits-of-restricted-stock
Schwab - https://www.schwab.com/public/eac/resources/articles/rsu_facts.html
TurboTax gain/loss - https://turbotax.intuit.com/tax-tips/investments-and-taxes/capital-gains-and-losses/L7GF1ouP8
This material is for educational use only and does not constitute tax, legal, or investment advice. Information may be changed or updated without notice. Consult with a licensed professional regarding your personal circumstances.
Please do not excerpt or copy this information without prior consent from TAN Wealth Management.