If you’re on the receiving end of restricted stock units, or RSUs, you could be set to financially benefit if you meet specific conditions set by your employer. The requisite condition is often staying employed with your company for a stated period.
If you meet the length-of-time condition, your RSUs vest and the value of the restricted stock units become yours. The value can be settled in shares of stock or cash.
Restricted stock units can be more valuable to you if the company stock price increases between the grant date and the vesting date. When the restricted stock units vest, you receive a value equal to the stock price on the vesting date times the number of units vested. A higher stock price, all else being equal, means a higher value for you.
This shared desire for an appreciating stock price is why both employers and employees may find restricted stock units attractive. The employer benefits from happy employees working hard in the company to maximize a future benefit. As an employee, you could benefit from an increasing stock price.
It can be a great win-win scenario, but you have to understand the ins and outs of your RSUs if you want to make the most of them. Here’s how to understand what happens when your employer grants restricted stock units, what happens when they vest, and how you can plan to manage the resulting stock value in the scope of your larger financial plan.
The Grant and Vesting of Restricted Stock Units
Generally speaking, when you receive restricted stock units:
- You have no legal right to the value of the units.
- The value is not taxed.
- If you leave your company, you will forfeit any future benefit or value.
As the name suggests, your restricted stock units are, in fact, restricted.
When the restriction is met and the restricted stock units vest, a taxable event occurs. You will be required to report taxable income equal to:
(Number of Units Vested * Market Value at Vest) = Taxable Income
Following the vesting of your restricted stock units and the payment of taxes, you’ll often receive shares of company stock. But remember that not all restricted stock units settle in shares of stock. Check your plan document to see what you will receive and the specific rules around your RSUs.
Know What You Will Receive When your Restricted Stock Units Vest
When your restricted stock units vest, you will be entitled to receive the vested value of your units. For some plans, the value of restricted stock units will be paid in shares of company stock. For others, the value will be paid to you in cash.
How this value is paid will be subject to the terms of your plan document; look for settlement options to find this information.
To illustrate how this might work, let’s assume you have the following:
- Number of Restricted Stock Units: 1,000
- Market Price of Each Unit on the Vesting Date: $50.00
- Tax Withholding: 22%
If we assume your restricted stock units will settle in shares, and that a share withholding will allow you to pay the corresponding income tax bill upon vest, we can calculate how many shares you will retain after the restricted stock units vest:
(Number of Units Vested * Market Value at Vest) = Taxable Income
1,000 * $50 = $50,000
(Taxable Income * Tax Withholding) = Tax Due
$50,000 x 22% = $11,000
(Tax Due x Market Price at Vest) = Shares Required for Withholding
$11,000 x $50 = 220 Shares
(Restricted Stock Units Vested – Shares Required for Withholding) = Shares Held
1,000 – 220 = 780 Shares Held
Post-vesting and post-tax withholding, you retain 780 shares of stock with a current market value of $39,000.
For comparison, if your restricted stock units settle in cash, your company will pay you $39,000 cash instead of 780 shares of stock.
Have You Withheld Enough from Your Restricted Stock Units for Income Tax?
While many companies will have a statutory tax withholding rate, they will require when restricted stock units vest, there’s no guarantee made by your company that the withholding rate will be enough to cover your actual taxes owed.
For example, if you withhold at 22%, but your real tax rate is 32%, you may find yourself owing tax when you file your tax return. On the other hand, if your overall tax rate is less than 22%, you may be entitled to a refund.
If you are ahead of the game in your planning, you can prepare a projected tax return to see the impact of vesting restricted stock units on your tax return. If you are unsure about how to do this, you may want to consider the services of a good accountant or financial advisor.
What Will You Do with Your Remaining Shares?
If your restricted stock units settle in cash, you can use that cash in several ways to help meet your financial goals. You could buy into a diversified investment portfolio, use the money to pay down debt, or add it to your cash reserves.
You can even buy more shares of company stock if you want. The options are seemingly endless (which is even more of a reason to plan and know how you’ll leverage this opportunity).
If your restricted stock units settled in shares of company stock, there are other considerations to keep in mind. For one, you have to decide whether or not you want to retain the shares of stock. Simply because your restricted stock settled in stock, does not mean you need to keep the shares. One might suggest that selling your vested restricted stock units might be your best bet.
You now have full ownership rights of stock. This means you are entitled to keep the shares, receive dividends (if any), vote on company related matters, etc.
Your ownership right also means that you can sell the shares of stock if you want. Just because you received company stock as part of your compensation does not need to mean to keep the shares, so you can always sell the shares and receive the proceeds as cash to create the same outcome as if the units settled in cash.
A Rolling Strategy to Manage Your Vested Restricted Stock
One strategy that may balance the decision to retain 100% of the shares or selling 100% is to implement a plan that suggests selling a specific number or percentage of shares over a set period.
In our example, this strategy could be implemented by planning to sell 25% of the shares over the next 4 years. If you did, the sale would look like this:
|Calendar Year||Shares Sold|
After the 4 years, you will retain 0 shares of company stock.
If the stock price goes up during the 4 years, you will participate in some of the upside as you still retain shares for 4 years.
This strategy allows you to intentionally reduce your company stock based on a set schedule. That’s a good thing because it means you don’t have to guess at what the stock price will do next, or say you will sell when the price reaches X per share, only to change your plans once the price does hit that point (and then risk the price going back down before you do sell).
This sell-on-a-set-schedule approach is a deliberate, intentional, and systematic process to manage your stock position in a way that allows you to participate in the upside and manage the downside.
What to Do Now with Your Restricted Stock Units
If you own restricted stock units, you need to plan for what you will do when they vest. If you have RSUs that have already vested and you own the shares outright, you should also consider how they fit into your overall financial plan.
Understanding the strategy, you’ll use — and then implementing it — is critical to making the right moves for your situation. Whether you retain your RSUs or sell them when they vest, being prepared will help you be proactive instead of reactive and make the most of the opportunity these units may provide.
This material is intended for informational/educational purposes only and should not be construed as investment, tax, or legal advice, a solicitation, or a recommendation to buy or sell any security or investment product. Hypothetical examples contained herein are for illustrative purposes only and do not reflect, nor attempt to predict, actual results of any investment. The information contained herein is taken from sources believed to be reliable, however accuracy or completeness cannot be guaranteed. Please contact your financial, tax, and legal professionals for more information specific to your situation. Investments are subject to risk, including the loss of principal. Because investment return and principal value fluctuate, shares may be worth more or less than their original value. Some investments are not suitable for all investors, and there is no guarantee that any investing goal will be met. Past performance is no guarantee of future results. Talk to your financial advisor before making any investing decisions.