When you receive deferred restricted stock units (RSUs), you may be able to take advantage of them to improve your personal finances. Here are some tips on how to do this:
- Know the vesting schedule of your RSUs. Vesting is when the units become yours and you can sell them.
- Consider selling the units as soon as they vest. This can provide you with a lump sum of cash that can be used to pay down debt or invest in other opportunities.
- If you hold onto the units, keep track of the stock price. You may be able to sell the units for a profit if the stock price goes up. 4. Dividends that are paid on the underlying stock can be reinvested or used to provide income.
By understanding how RSUs work and taking advantage of the features they offer, you can use them to improve your personal finances.
Deferred Restricted Stock Units, or RSUs
Defined: A deferred restricted stock unit, also known as an RSU, is a form of compensation granted by an employer. It is granted in the form of company shares to an employee.
The amount of units awarded to an employee is established by the business and is usually determined by the individual’s income, position, and years of service. The units are “restricted” since they can’t be sold or exchanged right away; instead, the employee must wait for a specific vesting time to sell or trade them.
RSUs can be used to put off paying income taxes for a long time. In contrast to restricted stock, RSUs usually don’t have to be taxed until after they’ve been used. In the short term, an employee or director might pay less taxes if they put off the tax event.
Popularity of Restricted Stock Units RSUs
Over the years, RSUs have become even more popular.
Morgan Stanley’s new The State of Equity Plan Management 2022 Report is based on an October 2021 survey of 325 companies.
- 72 percent said they used RSUs in their long-term incentive programs
- Compared to 47 percent ten years ago
- And only 4 percent 21 years ago.
Related Reading: Amazon RSUs, Apple RSUs, Google RSUs – Companies Use RSUs to Retain Top Talent
Related Reading: Navigating the Shift from Options to RSUs
How Do RSUs work?
Restricted Stock Units RSUs have two important dates:
- The grant date – This is the date you are given the RSU
- The vest date – The date when the RSU becomes available & can be sold.
To sell an RSU, you must wait until it “vests” and RSUs usually vest in stages rather than all at once.
- Suppose you start working at XYZ on January 2023.
- When you join the company, 1,000 restricted stock units are given to you.
- These units have a four-year vesting period.
- Each year, 25% of the RSUs become fully vested. Starting the 4th year.
- For every year after that, 25% more restricted stock units vest.
- There will be 250 shares that vested after one year, 250 after two years, and so on.
Restricted Stock Vesting
A restricted stock unit is a stock grant that is subject to certain conditions, such as meeting particular performance goals or staying with the company for a specified amount of time. Executives and other key personnel frequently receive restricted stock units as a type of long-term incentive compensation.
The restricted stock units will vest and the receiver will be entitled to purchase the business stock at the strike price if the stock price rises. The strike price is usually the stock’s market price at the time restricted stock units are issued.
The recipient will be able to profit from the selling of the stock if the stock price rises above the strike price. The profit will be determined by the stock price at the time of sale as well as the number of shares sold.
When considering restricted stock units, there are a few points to keep in mind. First, the stock does not belong to the receiver until the units have fully vested. Second, the receiver assumes the risk that the stock price will not rise. Third, when the units vest, the recipient will have to pay taxes on the revenue from the sale of the stock.
Risks of Restricted Stock Units
RSUs, on the other hand, come with some risks. If the company’s stock price falls during the vesting period, for example, the employee will be unable to sell the units for a gain. Furthermore, the strike price of the units may never be reached, implying that the employee would have been better off with standard stock options.
Restricted stock units can be a useful kind of pay for employees in general. They provide the opportunity to benefit without incurring any upfront costs, and they can serve as an inducement for employees to stay with a company for the long term.
Advantages of Restricted Stock Units
The main advantage of earning RSUs is that if the company’s stock price rises, the employee can eventually sell the units for a profit. This differs from standard stock options, which provide an employee the right to purchase stock at a predetermined price (the strike price), independent of market value. The employee does not have to pay anything in order to get restricted stock units; instead, the units are supplied to the employee for free.
How Are RSUs Different From Restricted Stock?
Restricted Stock Units vs Stock Options
RSUs are similar to stock options in that they reflect a portion of the company’s ownership and can be converted to shares at a later point. Unlike stock options, however, RSUs are often not “executed” by the employee; rather, they vest over time and are ultimately converted to stock or cash (depending on the company’s policy).
RSUs are a type of contract that gives you the right to get shares of stock, or a cash payment of equal value, in the future.
Unfunded: This contractual right is only a promise to pay from the issuer, not a promise to pay in real life.
The main difference between RSUs and restricted stock is that RSUs are contracts. An award of restricted stock, unlike RSUs, is made up of shares that are already in existence and that have a chance of being forfeited and can’t be sold. When it comes down to it, RSUs and restricted stock are both compensation that is worth the same as a share of stock.
The contractual nature of the RSUs allows for more flexibility when it comes to tax planning and the structure of the company. Restricted stock usually has voting rights even before it’s fully vested, but RSUs don’t have voting rights.
How To Sell Vested Restricted Stock Units
- Sell Shares Now – If you don’t think the share price of your company is going to go up, this is a good strategy to use. In this case, you might want to sell all of your shares. People need to know that if they sell between six months and one year, they’ll have to pay short-term capital gains tax, which is the same rate as their regular income tax. This is important to know. In most cases, if you wait until after one year, you can expect to pay a lower long-term capital gains tax.
- Hold Your Shares – If you have a positive, long-term view of your company stock, you can hold on to your shares for as long as you want. When you buy stock, you want the value to rise so that you make money and don’t have to pay taxes when you sell right away. This provides you the long term capital gains tax advantage for you as well.
- Sell Some, Keep Some – Another way is to sell some RSUs and keep some of them. In this strategy, you can keep your equity stake in the company, but you can also diversify your equity holdings at the same time. If you’re an executive who wants to diversify but also wants to stay invested in your company, this is a good idea.
- Selling With a Plan – Many top-level executives, with the help of an experienced financial advisor, implement a strategy that systematically sells off shares. This is a good strategy if you have a lot of concentrated stocks that you want to diversify for risk management reasons.
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Taxes on Restricted Stock Units
While RSUs can be a terrific method to gain business equity while also potentially earning a bonus, they can also have tax ramifications that should be examined before taking them.
- When RSUs vest, the employee is normally taxed on the share’s current fair market value.
- If the stock price has increased significantly after the RSUs were first given, this could result in a big tax payment.
- If the employee sells the shares soon after they vest, they will almost certainly be subject to capital gains tax.
RSUs are taxed at the time of vesting, which is when the stock options are exercised and the shares are purchased. The tax rate is based on the individual’s marginal tax rate, which is the tax rate on the last dollar of income earned. For example, if an individual’s marginal tax rate is 25%, and the RSU is worth $100, the individual would owe $25 in taxes on the RSU.
The most important thing to remember about RSUs and taxes is that you pay ordinary income tax when your shares are worth more than $1,000. Let’s say your RSUs were worth $100 when they were given to you. Because you didn’t actually get any shares when the RSUs were given to you, you don’t have to pay taxes on that $100. So, there is no taxable gain at the time of the grant of the right.
Instead, when your RSUs come to an end, you’ll pay ordinary income tax on the full value. When your money comes in, you’ll have to pay taxes on how much it was worth when it did. If they are now worth $150, you pay tax on the $150. Not the $100 they were worth when they were given to you.
Most of the time, your company will take care of the taxes for you, by withholding taxes automatically. The most common way they do this is to sell some of the vested RSUs they have. When it comes to federal income tax, your company will most likely only withhold the 22 percent that is legally required by law.
The higher your tax bracket is, the more likely it is that you will owe a lot more in tax. if you want to, you can sell more stock to pay for the extra tax.
4 Ways to Pay Taxes on Restricted Stock Units.
- A same-day sale is when you sell all of your shares on the day they’re earned. In order to pay taxes, the proceeds can be used to do so.
- To pay taxes with cash transfers, money is taken from your account and sent to the IRS.
- People who use a “sell-to-cover” method will get shares when they’re due. Your stock broker can sell some of the shares to pay for taxes, and you can keep the rest of the shares that you own.
- With a net share settlement, your company can keep some of the RSUs that are set to vest. The number of shares will be the same as the amount of withholding tax that was paid. The rest of the units can be put into your brokerage account.
Restricted Stock Unit Clawback
Another consideration with RSUs is whether the corporation has a “clawback” provision in place. This means that if an employee quits the company before the RSUs vest, they may be obliged to repay a portion or all of the RSU value. This is something to think about before accepting RSUs, as it might not be worth the risk if there’s a chance you won’t get them.
For Further Reading about RSUs
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The information here is for information purposes only, and not guaranteed to be accurate. The information may not be full and complete. This is not investment, insurance nor tax advice. You should talk with your financial advisor or accountant to figure out which of your options is best for you.
Michaelryanmoney.com does not provide legal or tax advice, and the information provided is general in nature and should not be considered legal or tax advice. Consult an attorney, tax professional, or other advisor regarding your specific legal or tax situation. Michaelryanmoney.com takes no responsibility for the current accuracy of this information.