How to Handle Taxes on Company Stock
Shares from your employer can equal a big payout, but it pays to know the rules.
When your employer awards you a bonus in the form of restricted stock units, or RSUs, it promises to give you a set number of shares of company stock after a specified vesting period—as long as you stay with the company. For example, suppose your company gives you 2,000 RSUs that vest in four years. If on the vesting date the stock is trading at $22, you’ll own shares valued at $44,000. That’s before taxes, which can be considerable.
TOOL: Pinpoint Your Tax Audit Odds
For several years, companies have been shifting from awarding stock options to granting RSUs. The trend accelerated after the 2008 stock market collapse wiped out a lot of employee stock options, says Loren Rodgers, executive director of the National Center for Employee Ownership. Stock options give employees the right to buy shares at a set price within a limited period of time; those options may become worthless if the stock declines in value. RSUs will always be worth something unless your company becomes insolvent.
Companies aren’t limiting grants of RSUs only to senior executives. Apple recently announced plans to give RSUs to all of its workers, including its retail store employees. Microsoft has been giving its rank-and-file employees RSUs since 2003. Starbucks launched a program in 2010 that awards RSUs to more than 125,000 nonexecutive employees, including baristas.
The downside to RSUs is that you don’t own them until they’ve vested. You have no voting rights and will receive no dividends until the shares are transferred to you on the vesting date. If you leave your job before that date, you get nothing. That’s why employers like RSUs: They encourage workers to stick around until their shares have vested. Some companies use a graded schedule in which a certain percentage of shares vests every year; in other cases, 100% of RSUs vest after a set number of years.
Figuring Uncle Sam’s cut. Restricted stock units are treated as compensation, so you’ll pay taxes at your ordinary income rate on the value of your shares on the day they vest. You’ll also pay Social Security and Medicare taxes, plus state and local taxes. Depending on the value of your RSUs, vesting could push you into a higher tax bracket.
Most employers will sell the appropriate number of shares and use the proceeds for tax withholding, says Bruce Brumberg, editor in chief of MyStockOptions.com. If your employer doesn’t withhold shares, you may have to pay estimated taxes to avoid an underpayment penalty.
Once you’ve received the shares, they’ll be treated the same as shares purchased on the open market for tax purposes. If you sell them for more than their vesting-date value, you’ll owe capital-gains taxes. (On the other hand, if the value falls, you’ll lock in a loss when you sell.) If you hold the stock for one year or less, you’ll pay ordinary income taxes on your gains. Hold your shares for more than a year and any gains will be taxed at long-term capital-gains rates, which for most investors is 15%.
Counting on a big payoff is risky. You could leave your job before vesting, or the company’s stock could take a nosedive. Rodgers recommends earmarking funds from your RSUs for discretionary expenses, such as a vacation, rather than essential expenditures. You could also use your RSUs to supplement your retirement savings. If you hold on to vested shares and the stock performs well, you could end up with a comfortable nest egg by the time you stop working. Just don’t let dreams of a windfall prevent you from making regular contributions to your 401(k) plan