Private companies often find it difficult to attract and retain key employees. Part of the issue is large, multinational corporations offering more attractive compensation packages which often include various forms of equity compensation such as stock options. While equity in a private company can’t be traded on a public exchange, there are several methods private companies can implement to provide equity compensation to employees. We have created blog series examining the most popular forms of equity compensation – First up we’ll talk about Restricted Stock Units (RSUs) and then we’ll move on to:
Let’s first look at Restricted Stock Units (RSUs)
Let’s consider Jill, who becomes an employee of XYZ Company in June 2018 and is awarded 1,000 RSUs, which are put on a 5-year vesting schedule with yearly cliffs. Jill isn’t required to pay any money to acquire the RSUs.
On her one-year work anniversary, 200 of Jill’s RSUs vest. Jill exchanges the 200 RSUs for 200 actual shares of stock. On her two-year work anniversary, another 200 RSUs vest, which Jill exchanges for 200 actual shares of stock. Another 200 RSUs will vest in years 3, 4 and 5 and exchanged for stock until all 1,000 RSUs are converted to 1,000 shares of stock.
How RSUs are taxed:
Let’s assume XYZ Company’s stock is valued at $30 per share when Jill’s first 200 RSUs vest in June 2019. The total value of Jill’s 200 shares of stock is therefore $6,000 ($30 per share x 200 shares). This $6,000 is added to Jill’s Form W-2 as wages, which is subject to income, Social Security and Medicare taxes.
Let’s see what Jill’s tax calculation looks during the 5-year vesting period, assuming that the price per share increases $5 each year:
2019: 200 shares @ $30 = $6,000 included in Jill’s Form W-2
2020: 200 shares @ $35 = $7,000 included in Jill’s Form W-2
2021: 200 shares @ $40 = $8,000 included in Jill’s Form W-2
2022: 200 shares @ $45 = $9,000 included in Jill’s Form W-2
2023: 200 shares @ $50 = $10,000 included in Jill’s Form W-2
Total vested shares: 1,000
Total income included in Jill’s Form W-2 over 5 years: $40,000
Sale of RSU Stock:
Continuing our example, once the RSUs are converted to stock, Jill can either sell the stock right away or hold the stock and sell it at a later date. Here are Jill’s choices for selling her stock:
- Jill immediately sells her stock immediately after vesting – i.e. Jill receives stock for $30 a share and sells it for $30 a share. No gain or loss is recognized.
- Jill sells her stock within one year after vesting. Jill will report any gains as ordinary income and any loss as a short-term capital loss.
- Jill sells her stock more than one year after vesting. Jill will report any gains as a long-term capital gain and any loss as a long-term capital loss.
Talk to your employees
Employees are accustomed to paying taxes on traditional cash income, but may be unaware of tax implications of RSUs. It’s important for employees to understand their total compensation package so there are no surprises.
