What Are RSUs?

When an employer offers restricted stock units, or RSUs, as part of a compensation package, these are effectively shares of stock in the company. But restricted stock units typically vest over time, and the employee must meet certain criteria before obtaining the actual stock.

Restricted stock options are similar to, but distinct from, employee stock options (ESOs). RSUs don’t have any value until they’re fully vested, but once they are, each share is given a fair market value. Once the employee takes ownership of the shares, have the right to sell their shares.

What Is a Restricted Stock Unit?

Restricted stock units are a type of equity compensation offered to employees. RSUs are not actual shares of stock that you can trade, as when you buy stocks online; they are a specific amount of promised stock shares that the employee will receive at a future date, assuming certain conditions are met.

Restricted stock units are a type of financial incentive for employees, similar to a bonus, since employees typically receive their shares only when they complete specific tasks or achieve significant work milestones or anniversaries.

RSUs vs Stock Options

Again, RSUs are different from employee stock options. Restricted stock options and employee stock options (ESOs) are both considered deferred compensation. They can be used as incentives to remain at the company, but employee stock options are structured differently.

ESOs are similar to a call option. They give employees the option to buy company stock at a certain price, by a certain date. But the employee must purchase their shares to get the stock.

Once RSUs are vested, the employee simply receives shares of stock on a given date from their employer, which they can then sell.

RSU Advantages and Disadvantages

Among the key advantages of RSUs are, as mentioned, that they provide an incentive for employees to remain with a company.

For employers, other advantages include relatively low administrative costs, and a delay in share dilution.

As for disadvantages, RSUs are considered taxable income for the employee in the year they vest (more on this below). In some cases, similar to a bonus, a 22% obligatory tax is withheld from the vested share amount.

When the employee later sells their shares, any gains or losses based on the original fair market value assigned to the shares are treated according to capital gains rules.

RSUs don’t provide dividends to employees. They also don’t come with voting rights, which some employees may not like.

Know the Dates: Grant and Vesting

In the case of RSU stock, there are two important dates to keep in mind: the grant date and the vesting date.

Grant Date

A grant date refers to the exact day a company pledges to grant an employee company stock.

Employees don’t own shares of company stock starting on the grant date; rather, they must wait for the stock shares to vest before claiming full ownership and deciding to sell, hold, or diversify stock earnings.

Vesting Date

The vesting date refers to the exact day that the promised company stock shares vest. Employees receive their RSUs according to a vesting schedule determined by the employer. Factors such as employment length and job performance goals are taken into consideration, as well as the vesting schedule.

The employer that wants to incentivize a long-term commitment to the company, for example, might tailor the RSU vesting schedule to reward the employee’s tenure. In other words, RSUs would only vest after an employee has pledged their time and hard work to the company for a certain number of years; or, the vested percentage of total RSUs could increase over time.

If there are tangible milestones that the employee must achieve, the employer could organize the vesting schedule around those specific accomplishments, too.

RSU Vesting Examples

Typically, the vesting schedule of RSU stock occurs on either a cliff schedule or a graded schedule. If you leave your position at the company before your RSU shares vest, you generally forfeit the right to collect on the remaining restricted stock units.

•   On a graded or time-based vesting schedule, an employee would keep the amount of RSUs already vested, but would forfeit leftover shares.

•   If an employee is on a cliff vesting schedule and their shares have not yet vested, then they no longer have the right to their restricted stock units.

Cliff Schedule

A cliff schedule means that the bulk of RSUs vest at once. For example, if you receive 4,000 RSUs at the beginning of your job, on a cliff vesting schedule you would receive 3,000 shares, say, after a one-year waiting period, with the rest made available at specific intervals. Again, once shares are vested, you could then consider trading stocks.

Graded Vesting Schedule

With a graded or time-based vesting schedule, you would only receive a portion of those 4,000 RSUs at a time. For example, you could receive 25% of your RSUs once you’ve hit your one-year company anniversary, 25% more after two years, and so on.

Alternatively, a graded vesting schedule might include varying intervals between vesting dates. For example, you could receive 50% of your 4,000 total RSUs after three years at the company, and then the remainder of your shares (2,000) could vest every month over the next three years at 100 per month.

Are Restricted Stock Units Risky?

As with any investment, there is always a degree of risk associated with RSUs. Even companies that are rapidly growing and have appreciating stock values can underperform. While you do not have to spend money to purchase RSUs, the stock will eventually become part of your portfolio (as long as you stay with the company until they vest), and their value could change significantly up or down over time.

If you end up owning a lot of stock in your company through your RSUs, you may also face concentration risk. Changes to your company can not only impact your salary but the RSU stock performance. Therefore, if the company is struggling, you could lose value in your portfolio at the same time that your income becomes less secure.

Diversifying your portfolio can help you minimize the risk of overexposure to your company. A good rule of thumb is to consider diversifying your holdings if more than 10% of your net worth is tied up with your company. Holding over 10% of your assets with your firm exposes you to more risk of loss.

Are Restricted Stock Units Reported on My W-2?

Yes, restricted stock units are reported on your W-2 as income in the year the shares vest.

When your RSUs vest according to their fair market value, your employer will withhold taxes on them, often the same 22% rate applied to company bonuses. The fair market value of the shares at the time of vesting appears on your W-2, meaning that you must pay normal income taxes, such as Social Security and Medicare, on them.

In some cases, your employer will withhold a smaller percentage on your RSU stock than what they withhold on your wages. What’s more, this taxation is only at the federal level and doesn’t account for any state taxes.

Since vested RSUs are considered supplemental income, they could bump you up to a higher income tax bracket, which would subject you to higher taxes. If your company does not withhold enough money at the time of vesting, you may have to make up the difference at tax time, to either the IRS or your state.

So, it might be beneficial to plan ahead and come up with a strategy to manage the consequences of your RSUs on your taxes. It may be wise to consult a professional.

RSU Tax Implications

When your RSUs vest, your employer will withhold taxes on them, just as they withhold taxes on your income during every pay period. The market value of the shares at the time of vesting appears on your W-2, meaning that you must pay normal payroll taxes, such as Social Security and Medicare, on them.

In some cases, your employer will withhold a smaller percentage on your RSU stock than what they withhold on your wages. What’s more, this taxation is only at the federal level and doesn’t account for any state taxes.

Since vested RSUs are considered supplemental income, they could bump you up to a higher income tax bracket and make you subject to higher taxes. If your company does not withhold enough money at the time of vesting, you may have to make up the difference at tax time, to either the IRS or your state.

So, it might be beneficial to plan ahead and come up with a strategy to manage the consequences of your RSUs on your taxes. Talking to a tax or financial professional before or right after your RSU shares vest could help you anticipate future complications and set yourself up for success come tax season.

How to Handle RSUs

If you work for a public company, that means that you can decide whether to sell or hold them. There are advantages to both options, depending on your individual financial profile.

Sell

Selling your vested RSU stock shares might help you minimize the investment risk of stock concentration. A concentrated stock position occurs when you invest a substantial portion of your assets in one investment or sector, rather than spreading out your investments and diversifying your portfolio.

Even if you are confident your company will continue to grow, stock market volatility means there’s always a risk that you could lose a portion of your portfolio in the event of a sudden downturn.

There is added risk when concentration occurs with RSU stock, since both your regular income and your stock depend on the success of the same company. If you lose your job and your company’s stock starts to depreciate at the same time, you could find yourself in a tight spot.

Selling some or all of your vested RSU shares and investing the cash elsewhere in different types of investments could minimize your overall risk.

Another option is to sell your vested RSU shares and keep the cash proceeds. This might be a good choice if you have a financial goal that requires a large sum of money right away, like a car or house down payment, or maybe you’d like to pay off a big chunk of debt. You can also sell some of your RSUs to cover the tax bill that they create.

Hold

Holding onto your vested RSU shares might be a good strategy if you believe your company’s stock value will increase, especially in the short term. By holding out for a better price in the future, you could receive higher proceeds when you sell later, and grow the value of your portfolio in the meantime.

RSUs and Private Companies

How to handle RSUs at private companies can be more complicated, since there’s not always a liquid market where you can buy or sell your shares. Some private companies also use a “double-trigger” vesting schedule, in which shares don’t vest until the company has a liquidity event, such as an initial public offering or a buyout.

The Takeaway

Receiving restricted stock units as part of your employee compensation can be a boon. Even though you don’t get actual shares of stock right away, once they vest they can provide extra income. But it’s important to understand how your company handles the vesting of these shares, and what the tax implications might be.

Perhaps the most pertinent thing to keep in mind, though, is that everyone’s financial situation is different — as so is their respective investing strategy. If you have RSU shares, it may be worthwhile to speak with a financial professional for advice and guidance.

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FAQ

What is the difference between restricted stock units and stock options?

Restricted shares or restricted stock is stock that is under some sort of sales restriction, whereas stock options grant the holder the choice as to whether or not to buy a stock.

Do restricted stock units carry voting rights?

Restricted stock units do not carry voting rights, but the shares or stock itself may carry voting rights once the units vest.

How do RSUs work at private vs public companies?

One example of how RSUs may differ from private rather than public companies is in the vesting requirements. While public companies may have a single vesting requirement for RSUs, private companies may have two or more.

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