The Taxation of Restricted Stock Units

Is your employer giving you restricted stock units (RSUs)? Here are some details about RSUs, which differ from stock options in both their nature and taxation.

 

Remember that this article is for illustrative purposes only and not a replacement for real-life advice. Please contact a tax, legal, or accounting professional before implementing a strategy or modifying an existing strategy involving restricted stock units.

 

RSUs are not yet shares of stock. They are a perk for your loyalty or job performance, and basically, a promise from your employer. The promise is this: at some point in the future, the company will deliver one share of stock to you for every RSU in your name. The delivery of RSUs usually happens in phases, across a few years.

  

With RSUs, you don’t have to buy any shares, but you also don’t possess any shares until the company delivers them to you. In contrast, stock options are opportunities: essentially, they are contracts that let employees buy company shares at a set price, within a set timeframe.

 

As you might assume, this fundamental difference leads to stock options and RSUs being treated differently under tax laws. 

 

Taxes are usually withheld on income from RSUs. Since RSUs amount to a form of compensation, they become part of your taxable income, and because RSU income is considered supplemental income, the withholding rate can vary from 22% to 37%. If you don’t want any withholding, your employer may be able to liquidate a percentage of the shares to effectively help you meet a withholding requirement (in essence, you pay the withheld tax by having the company take it out of the shares). Without any withholding, you may end up paying quarterly income taxes, which could be a new experience for you.

 

If you live in a high-tax state, your RSU income might be taxed as much as 50%. In addition to federal income tax, RSU income may also be subject to state and local income taxes.

 

You may have a capital gain on your RSU. Say you sell the shares for more than their fair market value (that is, the amount they are worth on the open market). If the transaction producing that gain comes within a year of the vesting date of the RSU shares, then the gain is defined as short-term by the Internal Revenue Service. Short-term capital gains are taxed at regular income tax rates. If the transaction occurs more than a year after the vesting date, then long-term capital gains taxes apply (they currently top out at 30%).
Generally, the value of your RSU shares reflects the market value of your employer’s stock. This is an important consideration for your financial future, and also, why you want to talk with a financial professional (and maybe a tax professional) after your company grants you restricted stock units.

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