A Quick Guide to Restricted Stock Unit (RSU) Taxation
As companies increasingly turn to equity-based compensation to attract and retain top talent, Restricted Stock Units (RSUs) have become a popular form of reward. RSUs grant employees a share in the company's stock, subject to certain restrictions. While the allure of stock ownership is appealing, understanding the tax implications of RSUs is crucial for recipients. If you’ve recently been awarded RSUs we hope this article is helpful.
Granting and Vesting
RSUs are typically granted to employees as part of their compensation package. However, ownership doesn't automatically transfer; instead, RSUs go through a vesting period during which the employee gains ownership rights. Vesting can be time-based or performance-based, with the employee gaining full control over the RSUs upon meeting specific criteria.
Taxation upon Vesting
The most common point of taxation for RSUs is upon vesting. When RSUs vest, they are considered income, and their fair market value becomes part of your taxable income for that year. This value is subject to federal, state, and local income taxes, as well as payroll taxes such as Social Security and Medicare.
Paying the Tax
It's important to note that as your RSUs vest you will need to find a way to pay the taxes. There are two main methods for paying this tax.
Selling to Cover: In this approach, a portion of the vested RSUs is sold to cover the taxes owed. The remaining shares are transferred to the employee's brokerage account. This method is straightforward and ensures that taxes are paid immediately. Just like your normal paycheck, you can request that your employer withhold taxes at the vesting date. They would then sell a portion of your awarded shares to cover the necessary tax. You would receive the remaining securities.
Paying Out of Pocket: Alternatively, you can choose to pay the taxes owed using funds from your own pocket. This means retaining all the vested shares but requires that you have sufficient liquidity to cover the tax liability.
Continued Ownership and Capital Gains
Once RSUs have vested and taxes have been paid, you become the owner of the shares. At this point, any future gains or losses from the sale of these shares are subject to capital gains tax. The holding period, or the duration between the vesting date and the sale date, determines whether the gains are classified as short-term or long-term.
Short-Term Capital Gains: If shares are sold within one year of vesting, any gains are considered short-term capital gains and are taxed at your ordinary income tax rate.
Long-Term Capital Gains: If shares are held for more than one year before selling, any gains are classified as long-term capital gains. These gains are typically taxed at a lower rate than short-term gains.
Understanding the tax implications of RSUs is essential for employees who receive this form of compensation. By navigating the complexities of RSU taxation, individuals can make informed decisions about their financial strategy, including when to sell shares and how to optimize tax efficiency. Consulting with a tax professional can provide personalized advice based on individual circumstances, ensuring a comprehensive approach to RSU taxation. As RSUs continue to be a cornerstone of employee compensation, staying informed about their tax treatment is a crucial aspect of financial planning.
This article should not be viewed as financial advice. We strongly recommend that before you make any decisions based on this article you contact a qualified professional. For questions or to set up a consultation contact us.