Many employees receive Restricted Stock Units (RSUs) as part of their regular compensation, which are shares of ownership (i.e. stock) in the employer’s company. If you’re one of these employees, you have to decide when to sell your RSUs.
How RSUs compensation works
RSUs are awarded at a regular time, such as during an annual salary review, and vest over 3-4 years. When shares are vesting, you don’t truly own the shares or know their value until a specific date. In this way, RSUs are a delayed bonus. You’ve earned them, but you don’t know how much they’re worth until they vest. Then you can look at their stock price and calculate their value.
Determining when to sell your RSUs
RSUs are shares of stock, so you have to decide when to sell.
The first step is to figure out the percentage of your assets in company stock. If it’s over 10%, you’re gambling. Your income already comes from your employer, and now you’re tying a large chunk of what you own to them as well. Even if your company investments are under 10%, you should plan to sell all your vested shares to reduce your exposure.
Remember that diversification is key to successful long-term investing.
Creating a plan to sell your RSUs
After deciding to sell your RSUs, you need a plan to reduce your company exposure and minimize the taxes you’ll pay. This plan has to apply to both the unvested and vested shares.
First, the unvested shares.
You are taxed on the full amount of RSUs on their vesting day. That day’s market value of the shares goes straight to your W-2. It’s as if you were given that amount in cash instead of stock.
Understanding this, if your company gave you cash instead of stock on the vesting day, would you immediately buy stock? Probably not, but by holding onto those shares, your tax calculation is exactly as if you did.
The best strategy is to sell shares when they vest.
Second, the vested shares.
Selling vested shares is a bit more complicated. Now that you have a gain or loss, you have to consider whether it will be taxed as short- or long-term capital gains. This is determined by whether you’ve held the shares for at least a year after vesting.
Once you know the tax rates, you can calculate the “tax cost” of selling by dividing the tax among the amount of currently vested shares. Then, rank them from the lowest percentage tax cost to the highest.
With the total tax cost, you can decide whether to take the “hit” today or over the next few years. If you choose the latter, begin by selling the shares with the lowest percentage tax cost. This lets you sell the most value for the lowest tax cost.
Deciding what to do with your cash
RSU awards are no different than a salary. Don’t treat them any differently than a paycheck.
Your RSU awards can support your lifestyle by making sure your Savings Target is being met. Your Savings Target is a combination of your net cash needs over the next five years and Emergency Funds. Once you meet your Savings Target, put the remaining funds into your long-term investment portfolio.
The obstacles keeping you from selling your RSUs
Two things get in the way of selling: effort and gambling.
The first obstacle is that it takes effort to sell. You have to track vesting dates and log into a platform to sell them.
The second obstacle is that you’re attached to your company stock. You might believe it’s too low to sell, so you hold when it goes down. Other times, you might think it will continue going up, so you hold when it goes up. One of those cases is always true, so you wouldn’t sell.
Managing your RSUs is simple
The toughest part is getting over your emotional connection to the stock. Once you’re committed, all you need to do is sell your current RSUs as they vest, and your older RSUs according to the tax-wise method described above.