Stock Grants: Reframing Why You Should Sell Your Company Stock
JP Osseward | June 15, 2019
Many employers in the Northwest provide compensation to their employees in the form of company stock. This compensation has a number of different names: stock awards, equity, equity compensation, stock grants, restricted stock units, etc. Employees find that they are awarded more of these types of compensation as they progress up through the ranks of their company. In fact, many corporate executives can be paid more in stock awards than salary, often significantly more.
Employees typically have difficulty trying to figure out how to view this compensation: Should I sell? What are the tax implications? What amount is the right amount to keep? While you may have a sense of pride in the company that you work for and believe that the company will do well, this shouldn’t be why you hold onto company stock. Having your financial assets (the company stock) and your human capital (your current and future income) tied to the same entity is inherently risky. Even more risky is the fact that people have unvested stock in their company which can represent millions of dollars in unvested shares. This anxiety can be mitigated by gaining an understanding of how stock grants are taxed and what will happen when shares are sold.
In the case of stock grants, you receive grants in previous years and must wait for the shares to vest. Once a share has vested, it is delivered to you in an Individual Account. During this delivery process, a portion of the shares are sold by your employer and sent to the IRS in order to make sure you don’t have a huge tax bill in April. Typically, the amount withheld by the employer is adjustable with a minimum of 22% withholding. Just like a paycheck, the amount withheld in a vesting grant can be tailored to match your tax bracket. By adjusting this, you can reduce cash flow issues when paying your taxes either in April or on a quarterly basis.
Consider this Microsoft stock award:
Shares Awarded: 4000
Award Date: 8/31/2018
Microsoft Price on 8/31/2018: $112.33
Last Vest Date: 5/31/2019
Number of shares that vest on each date: 200
Microsoft Price on 5/31/2019: $123.68
On May 31st, 200 shares vested at $123.68, resulting in $24,736 (200*$123.68) of taxable income to the employee. Note: the price at which the stock was awarded does not matter for tax purposes, only the price on the vest date. Microsoft withheld 22% of the shares for taxes, so the amount the employee received was 156 shares into their Individual Account.
Now however, once the stock has vested a whole new set of circumstances arise. Rather than having any additional income tax resulting from the vest, the Microsoft shares can be sold immediately for no additional tax burden. If an employee receives shares at $123.68 and sells them for $123.68, there is no tax impact. However, once the shares start moving away from $123.68 there will be additional tax considerations in the form of short-term or long-term capital gains/losses. Typically, selling the shares in the weeks following the vest don’t result in massive tax changes, though it is possible.
What is extremely important for recipients of stock grants to understand is the implicit choice they are making when shares vest and how they treat those shares once they have control of them. Once the shares vest, taxes have been withheld from the shares. The share amount and share price is something you do not have control over. Once you have control of the shares, you can either sell the shares or keep them. As taxes have in part already been paid, deciding to keep the shares can be viewed as equivalent to purchasing those shares, much as if the same amount of compensation had been granted in cash.
The status quo effect here is powerful. Because employees receive their compensation in the form of stock, they are more likely to keep the stock. If the stock vested and became cash, most people would keep the cash. As they have busy lives, the momentum of receiving the grant as stock means that they will keep the stock. However, if we truly examined each vest as a choice, we would come to a drastically different conclusion about what is best for the employee. If people received the vest in cash, how many would choose to use the entirety of the cash to purchase shares in the company that they work for? Arguably much less people would have company stock in this scenario. The difficult part is to see that in terms of taxes, there is no difference between having stock or cash right after the vest.
You have no control over unvested company stock, some degree of control over your job, but relatively little control over the company as a whole. Where you have the most control over is your vested company stock. Selling these shares as they vest is the best way to avoid concentrating current and future wealth in one place. Reframing each stock vest as a choice to purchase company stock should result in each person generally deciding against it. Selling company stock and diversifying into other assets will overwhelmingly help you reduce risk and manage the problem of what would happen if your company suffered a massive collapse.
If you would like to learn more or discuss how your situation is impacted by stock grant compensation, please feel free to reach out to us.