1. Restricted Stock Units vs. Restricted Stock
First of all, RSUs are different than restricted stocks. There is only a one-word difference in the name, but they are two different things in nature with varying opportunities for planning. I will focus only on RSUs here and may cover restricted stocks in a separate post.
2. Vesting Schedule
Similar to your employer’s contribution to your 401(k) accounts, RSUs do not belong to you until vested. In general, if you work for a public traded company, your RSUs’ vesting schedule either falls under a “cliff” schedule (100% of your RSUs will be vested at the same time after a certain period) or a “graded” schedule (your RSUs will be vested gradually, e.g., 25% per year and vested in four years) or a combination of both. If you work for a private company, you may also encounter something called the “double-trigger” vesting schedule. Basically, even you meet the requirement of the normal cliff and/or graded schedule, you RSUs won’t become vested until certain liquidity event happens. The most common liquidity event is an IPO.
Some RSU plans may also have some additional vesting features related to the company’s specific performance metrics. Make sure you understand it entirely if it does have additional features.
More importantly, you need to understand what will happen to your vested and unvested RSUs when you leave the company. Sometimes it may be worthwhile to stay until more RSUs are vested.
3. Delivery Date
RSUs will be taxed upon delivery not at granting or vesting. Under most RSU plans, the shares are delivered to you at vesting. However, some plans give you a choice to defer the share delivery to a future date. In other words, you could decide when to pay income taxes based on your specific situation.
4. Tax withholding
Just like your regular wage and salary, your employer will withhold taxes for your RSUs. Social Security and Medicare taxes are usually withheld at vesting. Income taxes are withheld upon delivery. Many companies automatically sell your shares to cover the tax withholding without giving you a choice. Some companies may offer you different ways to pay withholding taxes including but not limited to paying by personal check or deducting from your paycheck directly. It is useful to choose the best withholding method based on your specific situation. But more importantly, you need to know how much taxes your company will withhold for you, especially income taxes.
RSUs are treated as supplemental income. Many companies withhold federal income taxes on RSUs at a flat rate of 22% (37% for amount over $1 million). The 22% doesn’t include state income, Social Security, and Medicare tax withholding. For people working in California, the total tax withholding on your RSUs are actually around 40%. If your marginal federal income tax bracket is higher than 22% excluding RSUs, you are most likely not withholding enough. You need to either increase withholding amount from each paycheck by adjusting your W-4 if possible or make quarterly estimated tax payments to avoid a potential penalty for underpayment of estimated tax. Some companies use the same tax rate from your W-4 for your RSUs tax withholdings. If this is the case, you are less likely to have the underpayment of estimated tax issues. If you are not sure, I recommend you consult a tax professional on this based on your specific situation.
5. Trading Restrictions
To prevent insider trading, you may be subject to different trading restrictions. The most common ones are the blackout period and the trading window. The blackout period is a period of time that you cannot transact your company’s stock. The trading window is the opposite which is a period of time you are permitted to trade the stocks.
If you work for a company just went public, you may be also subject to something called the “lock-up period”. It usually last 90-180 days from the date of IPO. In other words,even if your RSUs become fully vested on the IPO day, you cannot sell it until your lock-up period ends in a few months.
6. DividendsRSUs generally do not have voting and dividend rights since they are not actual shares until vesting or delivery. This is also one of the differences between RSUs and restricted stocks. However, some companies may pay or accrue dividend equivalents on RSUs when paying dividends on actual outstanding shares of stock. The accrued dividend equivalents will usually be paid to RSU holders at vesting in cash or additional shares. Another thing worth mentioning here is that if you receive 1099-DIV for those dividend equivalents, check whether they are included in your W-2 already. You don’t want to count the same income twice when filing your tax returns.
7. Beneficiary designations
Naming a beneficiary is one of the easiest ways to avoid probate. Some RSU plans may allow you to designate a beneficiary, especially if it accelerates vesting or lets vesting continue. Some plans may not explicitly allow or disallow beneficiary designations. In this case, I recommend you suggest your company to consider adding it.
In the end, like other types of stock compensations, RSU plans are very company specific. Each plan can have some special features or provisions which are unique to others and not covered in this post. I recommend you read your plan agreement thoroughly, bring any questions you have to your HR department, or even consult outside professionals if necessary to help you make informed financial decisions and avoid any unintended consequences.
Feel free to contact us if you have any other questions.
