If you recently started earning restricted stock units (RSUs), you may be wondering what this means for you — and for your taxes. RSU taxes aren’t overly complicated, but the boost to your compensation may be enough to require you to re-evaluate other aspects of your financial life, from your income tax withholding to your retirement savings strategy.
To understand the ripple effects of equity compensation, let’s start with the RSU tax basics.
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How are RSUs taxed?
RSUs are taxed as ordinary income at the time they vest. When you sell the shares, you may owe capital gain taxes, depending on whether you earned a profit on the sale, as well as other factors.
How are RSUs taxed when granted?
If you have RSUs, you likely got them as part of a compensation package when you were offered a job, promotion or raise.
At that point, your RSUs are a promise to issue stock at a later date, but whether you actually see those shares depends on meeting certain conditions. That often means waiting until the shares vest over a period of years.
Because you technically don’t own the stock during this period, you don’t owe any taxes yet.
How are RSUs taxed when vested?
When your RSUs vest, ownership transfers to you, and as far as the IRS is concerned, that makes them income.
At this point, how much you owe on vested shares depends on their value, which is based on how many shares you received and their market value on the vest date. RSUs are taxed at your marginal income tax rate (the same as your other wages), and your employer must withhold the required taxes. Your company may withhold stock to cover your taxes or you may be required to sell shares. Paying taxes out-of-pocket also may be an option.
» Going through an IPO? Read our tax planning guide
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How withholding happens upon vesting depends on elections you make with your company at the time RSUs are granted. How are RSUs taxed when sold?
When you sell your RSUs, you may owe capital gains tax if you earned a profit on the sale.
At this point, the actual tax rate depends in part on how long you held the stock.
- Less than a year? Short-term capital gains are treated as ordinary income.
- More than a year? Long-term capital gains are generally taxed at a lower rate, up to 20%, depending on your household income.
How much are RSUs taxed?
RSUs are taxed at your ordinary income rate when they vest, and if you sell your RSUs for more than they were worth when they vested, you may owe capital gain tax on that profit.
Consider the following scenario:
- You are granted 1,200 RSUs at the time you join a company. The vesting schedule dictates that 25% of the shares will vest per year over four years.
- On your one-year anniversary, 25% of the shares vest, transferring 300 shares to you. The stock is worth $10 per share on the vesting date.
- When you decide to sell your shares, their value has increased to $12 per share.
- For this example, let’s say your household earnings put you in the 15% tax bracket.
Here’s generally how much your shares would be taxed.
What's taxed | Tax rate | |
|---|---|---|
When they’re granted | Nothing. The shares are promised but haven’t yet transferred to you. | Not applicable. |
When they’re vested | The value of the vested shares.
| Marginal tax rate.
|
When they’re sold | The capital gain, or profit.
| Capital gains tax rate.
|
RSU taxes: Important considerations
People getting RSUs or other equity compensation for the first time can be surprised at the way it changes their financial picture, says Ross Anderson, a certified financial planner (CFP) and co-founder of Craftwork Capital in Alexandria, Virginia.
Taxes can play a big role in that because, according to Uncle Sam, your earnings may have gone up dramatically even if the size of your paycheck didn’t change. But the impact also may go beyond taxes to “open new doors you didn’t know were open,” Anderson says.
He suggests taking an equity grant as an opportunity to assess your new financial picture. Here are three ways to do that.
1. Check your withholding
When your RSUs vest, they’re considered supplemental income. The IRS sets the default tax withholding rate at 22%. (It’s 37% if all your supplemental income adds up to more than $1 million in a year.) But just because it’s the default rate doesn’t mean it’s the right rate for you.
One common problem people run into with RSUs is that their withholding was too low, Anderson says.
“Twenty-two is a good guess,” Anderson says, “But that’s where people get in trouble if they’re just guessing and they don’t actually know what their tax bracket is going to be.”
How much you owe in federal income taxes depends on your household income and other factors. If you’re married and your spouse also earns a paycheck, it’s a good idea to review your withholding together. The IRS’ tax withholding estimator can help you determine if you should change your withholding.
2. Revisit your retirement savings strategy
If the value of your RSUs is enough to bump you into a new tax bracket, it could be prudent to take another look at the types of tax-advantaged accounts you’re using to save for retirement.
Often, young earners prioritize saving in a Roth 401(k) or Roth IRA because they’re in a lower tax bracket than they expect to be in during retirement, when they’ll be able to withdraw those funds tax-free.
If that’s been the case for you, but RSUs change your situation, it might be time to send more of your pre-tax dollars to retirement savings with a 401(k) or traditional IRA, Anderson says.
3. Consider your selling strategy
Because RSUs typically vest in batches, you may find yourself holding on to more shares in a single company than you expected or want. Having so much of your investments in one place is considered a higher risk.
If the company you work for is super-successful, and you’re financially stable, you may decide it’s worth the risk to hold onto as many shares as you can, Anderson says. But it’s also reasonable — and often prudent — to reduce that risk by selling stock even when it means paying higher taxes.
As you consider your RSUs selling strategy, Anderson offers three questions to ask:
- What do you believe about the company? Even if you don’t need the money you’d get by selling RSUs, if you have a negative view of the company, you should reduce the amount of stock you own.
- Do you need the money? If you have other goals, such as buying a home, saving for college, or retiring early, you may opt to sell shares to redirect the money to those other savings buckets.
- What are the tax considerations? Anderson intentionally places this question third. “I try not to do anything exclusively for tax purposes,” he says. But it’s still valuable to assess the tax-related impact of selling to see if you can be strategic in reducing your tax liability.
AD
Are you on track for
the future you want?
NerdWallet Wealth Partners created a free calculator to estimate your financial independence number, see where you stand, and find out how much you might need to close the gap.
NWWP is an SEC-registered investment adviser. Registration does not imply skill or training. The calculator is provided for informational and educational purposes only.
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