An equity compensation fairytale.

Equity compensation is widespread these days. Many large, publicly traded companies pay a portion of an employee’s compensation in equity or shares of the company. About 43% of publicly traded companies use this method to attract employees.

This is something that we see day in and day out. It is not only becoming increasingly popular, but it is also making up large portions of people’s total compensation.

So, let’s dive into it. Restricted stock units (RSUs) are a form of compensation in which an employee is granted a specific number of shares. Now, they don’t have immediate access to the shares. Rather, the shares vest over some set schedule called a vesting schedule. The vesting schedule can vary from a certain percentage of the total grant vesting each month or year you’re with the company to cliff-vesting where you must wait a full year before you begin vesting shares according to the schedule.

Restricted stock units are often used to incentivize employees. Whether they are granted at the start of someone’s employment or refreshed (a new grant) upon being promoted, large companies love to hand out equity compensation. On top of the monetary incentive, it also drives employees to produce better work knowing that their compensation is somewhat derived from the company’s stock price.

RSUs are taxed as income when they vest. Whether you sell them or not upon vesting, they are taxed as income. From that day, you begin your holding period, which can allow the shares to qualify for long-term capital gains treatment down the road. It is not uncommon to see someone who vested their first tranche of RSUs get hit with an unexpected tax liability. (Many times, that is why they come to see us!) If you have RSUs, please ensure you understand what is being withheld upon vestiture. If you are not withholding enough, it is a perfect storm for a hefty tax bill come April.

One thing I always try to make apparent to employees with equity compensation is that at the end of the day, it is compensation. Sometimes, it can help to think of it as a “bonus” that is paid in stock. This raises the question: “Would I take a cash bonus and pile it all into my company’s stock?” In many cases, employees look to sell some of the shares and hold onto the other portion, understanding the risk they are bearing.

Usually, having some skin in the game is a great way to keep motivated. Sometimes, people are completely indifferent and wish to view the RSUs vesting as a portion of their total compensation (which is it) and sell the entire lot to further diversify or supplement their lifestyle expenses.

Now that we have a basic overview of RSUs, let’s look at the best- and worst-case scenarios.

Worst case scenario: You vest a large tranche of RSUs, spend all of the money, and get hit with a massive, unexpected tax bill for the income you realized upon vestiture. This can be a real headache. We constantly plan around this with clients.

(One of the) Best case scenarios: You took a job at Nvidia 5 years ago. You were granted $100,000 worth of RSUs and did not sell any of them as they vested over 4 years. This grant would be worth $3,231,000. This includes no refreshers. This would be just one grant from Nvidia 5 years ago.

Nvidia has gone absolutely parabolic recently. It has added trillions in market cap over 5 years. This is not the status quo, however, it is incredible to think that some 26-27-year-old who took a job with Nvidia fresh out of college is now a multimillionaire because of how the stock performed and how Nvidia chose to compensate them.

Not every company will be Nvidia, there may not be another Nvidia in our lifetime in all honesty, but it is very cool to think about.

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Have a more specific question or want to get your finances in order? Feel free to reach out to [email protected] for a free consultation!