Have you earned restricted stock units (RSUs) through your employer? This type of non-cash compensation has become more and more prevalent among start-ups and Fortune 500 firms, which utilize RSUs to attract new employees and retain key executives to foster a corporate ownership culture. These days, companies are granting fewer stock options than they used to and opting for RSUs instead. As they help to align the interests of both employers and employees, restricted stock units are considered to be a useful compensation tool.
Let’s take a look at how this compensation plan works, as well as how it may affect your financial plan going forward.
WHAT ARE RESTRICTED STOCK UNITS?
An employer grants restricted stock units (RSUs) as an incentive, compensation, and retention tool. With RSUs, employees are granted deferred and restricted stock. Once the employee’s vest, the shares become company stock. An employer gives stock in the company to its employees if certain requirements are met at a certain point in the future (referred to as the “vesting date”). RSU awards are generally linked to continuing employment until the vesting date, although performance standards may also be used to determine RSU payouts. The employee does not receive any compensation until his/her RSUs are vested. The amount of compensation earned by the employee on the vesting date will be determined by the value of the stock represented by the RSUs.
When the company does well, the stock value should rise, increasing the value of the RSUs that represent shares. Upon the vesting of RSUs, the income is treated as ordinary income. To pay necessary taxes, shares are generally sold. Any future appreciation in the value of your shares will be subject to the rules governing capital gains after the vesting date.
A quick example: Let’s assume your employer has given you 500 RSUs at the stock price of $15. The stock price rises to $20 by the date your RSUs are supposed to vest. On the vested date, the 500 RSUs would be worth $10,000 in company stock (before taxes).
WHAT MORE SHOULD YOU KNOW ABOUT RSUS?
RSUs have several advantages, and some drawbacks as well. We’ve outlined some of these aspects for both you and your employer below:
As an employee, here are some key points you should know:
Obtain Company Ownership. You receive an economic interest in the company, which is represented by future stock shares.
No Upfront Investment Necessary. RSUs differ from traditional stock options in that they are grants. In order to exercise your right to buy the stock, you do not need to make an upfront investment. The stock you own with RSUs becomes yours once the shares vest at the market price at the time.
No Initial Dividends. Stock dividends are not legally owed prior to vesting and converting into stock. Some companies have, however, voluntarily compensated RSU holders in place of dividends during vesting.
Clear Value. When compared with stock options, which can lose their value if the share price falls below the option price, RSUs still have some intrinsic value if the share price falls rather than rises between when the unit was issued and when it vests (barring a company’s bankruptcy).
No Value Before Vesting. Your RSUs will be forfeited if your employment ends before the vesting date.
No Initial Voting Rights. You do not have any voting rights in the company until the RSUs vest and convert into shares of stock.
No elections under 83(b). In contrast to straight restricted stock, RSU holders are not required to pay income taxes on grants when they are issued. However, restricted stockholders do have to pay income taxes when the stock vests.
Deferring Income Taxation. RSUs are not taxable at the time of issuance, but rather at the time of vesting. Deferred compensation does not require up-front payment of income taxes. Taxes are instead due in the year of vesting on the grant amount, where the taxable income is calculated by calculating the fair market value of the RSU award on the vesting date.
For your employer:
Recruiting and maintaining key employees. By allowing employees to share in the company’s growth, RSUs are a valuable recruitment and retention tool for your company.
Reduced Costs. With compensation incentives, your business does not have to incur any cash expenses upfront. Especially those companies in the early stages of their development that are cash-constrained would benefit from this. A further advantage is that administration costs are low since there are no actual shares until the vesting schedule has been completed.
Delay dilution of stock. By definition, stock dilution occurs when new shares are issued, resulting in a reduction in equity ownership. RSUs, unlike other forms of equity compensation, do not immediately increase the company’s share count, so they’re beneficial to your company. As a result of RSUs, your employer is able to defer issuing shares until a later date, which delays stock dilution for existing shareholders.
CONSULT YOUR FINANCIAL ADVISOR
Depending on your employment or financial situation, you may have different complexities with regard to RSUs. Base Wealth Management is happy to assist you in both understanding your RSU award and navigating its potential implications for your overall financial plan.
If you would like to know more about how Base Wealth Management can help you achieve your financial goals, please feel free to schedule a no-fee, no-obligation virtual appointment or contact us at (941) 756-8716. You can also email me directly at dan@basewealthmanagement.com.
