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Mastering Restricted Stock Units: A Smart Investor’s Guide to RSUs

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Financial advisors for successful professionals, executives, and business owners.

In the complex landscape of modern compensation packages, Restricted Stock Units (RSUs) have emerged as a critical component, particularly for those in demanding careers such as executives, tech professionals, and the world of startups. 

RSUs represent more than just an alternative form of compensation. They are a potential gateway to financial freedom and an essential asset in your investment portfolio. Whether you’re at the helm of a startup or steering through the ranks of a tech giant, understanding RSUs is crucial for optimizing your financial strategy.

Understanding RSUs: The Basics

At their core, RSUs, or Restricted Stock Units, are company shares granted to employees, but with a catch – they’re subject to a vesting schedule. This means you don’t own the shares until certain conditions, typically tied to your tenure at the company or specific performance milestones, are met. Once vested, these shares can become a powerful tool to build financial independence.

For professionals in high-growth sectors, such as Kyle and Maya, who are navigating their careers in big tech and a biotech startup, RSUs can be particularly valuable. These sectors often see rapid appreciation in stock value, turning RSUs into a significant wealth-building asset over time. Also, professionals in tech and life sciences are often surprised to see half or more of their income come from their RSUs.

Key Components of RSUs

RSUs have two important dates:

  1. Grant Date – This is when your company promises you the restricted shares. The shares aren’t yours yet; you must still meet specific requirements.
  1. Vest Date – When the shares officially become yours and appear in your stock plan account.

There are two main types of RSU vesting schedules:

  • Cliff Vesting: Cliff vesting is when all of your RSUs vest at once. The “cliff” can be triggered by a time period or related to performance.
  • Graded Vesting: Graded vesting schedules vest over a series of years. Often, graded vesting will have shares vest equally over 4 or 5 years. Or they could vest 40% at a one-year anniversary, then 20% more vests each year over the next three years.

Once you leave your employer, your RSUs will generally stop vesting. However, Some companies allow changes to the vesting schedule related to retirement packages. 

Microsoft, for example, has a unique rule known as 55/15. The Microsoft 55/15 rule allows all stock grants more than one year old to continue to vest after retirement for any employee 55 or older with 15 years of continual service.

RSUs vs. Stock Options

The primary allure of restricted stock units lies in their simplicity and lower risk compared to stock options. With stock options, employees can purchase company stock at a predetermined price, but they only realize a gain if the stock’s market value rises above the price when it is granted to the employee. 

RSUs, however, hold inherent value as they turn into actual shares, regardless of the stock’s price fluctuation, offering great potential. As part of your compensation (and taxed as such), they warrant careful consideration and planning, ensuring they align with your broader financial objectives and lifestyle goals.

How Restricted Stock Units (RSUs) are Taxed

The taxation of RSUs is often confusing, causing misguided decisions about how to optimize your RSUs. When RSUs vest, they are considered income, and their value at vest is taxed as ordinary income. 

This value for tax purposes is determined by the market price of the shares on the vesting date. For instance, if you have 100 RSUs vesting and the market price of each share is $50 on that day, you’ll have $5,000 of ordinary income. This amount gets added to your W-2 like the rest of your income. 

Unlike stock options, where taxes are typically deferred until you exercise the option and sell the shares, restricted stock units are taxed immediately when vested.

Once your RSUs have vested, you have a “cost basis” of those shares, just as if you bought the stock. Any gains or losses from the vest onward will also be subject to capital gains taxes (short-term or long-term). It is critical to understand this. There is no tax benefit to holding RSUs after they vest. You will pay ordinary income tax on the amount vested, whether you hold or sell the shares.

Can RSUs Cause A Wash Sale?

Unfortunately, RSU’s vesting can trigger a wash sale. A wash sale occurs when you sell a stock for a loss and buy back the same or substantially identical stock within 30 days before or 30 days after the sale. If this happens, the IRS does not allow you to use the loss. For companies that vest RSUs monthly, as Google does with their RSUs called Google Stock Units, this makes it tricky to use a loss on Google stock.

How Are RSU Taxes Withheld?

RSUs generally have shares withheld to cover the tax bill. This means if you were supposed to have 100 shares vesting, perhaps only 60 will go into your stock plan account, and 40 shares could be withheld to cover your tax bill.

One of the biggest opportunities when it comes to RSU planning is that many people misinterpret how tax withholding works. Most companies use a supplemental wage withholding for RSUs and do not go off your W-4 Rate. For 2024, that rate is 22% on supplemental wages for income up to $1 million and 37% beyond that.

Because of this, if your income is less than $1 million, your RSUs will more than likely have a 22% federal tax withholding. This is far below your overall marginal tax bracket for many tech professionals and executives, which often leads to a tax bill surprise.

If this sounds like you, log into your stock plan account and review your tax withholding. Many companies allow you to adjust your RSU withholding easily to better align with your personal tax situation.

How Do RSUs In Private Companies Work?

In private companies, restricted stock units often come with what’s known as a “double-trigger” vesting schedule. The first trigger is typically time-based, similar to public companies, where RSUs vest over a set period. The second trigger, however, is event-based, often tied to a liquidity event such as the company going public or being acquired.

This dual-condition approach serves a few purposes: it incentivizes employees to stay with the company through crucial growth phases and aligns their interests with its success.  

Most importantly, it saves the employees from paying tax on shares when there is no market to sell them to raise cash to pay the tax. Facebook was one of the first big companies to solve this issue. Traditionally, RSUs would vest, resulting in a potentially large tax bill for those working in unicorn startups. But without a market to sell the shares, the employees are hung out to dry, needing to find cash to pay the tax. The double trigger rule allows those shares to vest but delays the tax bill until the second trigger is met.

To Sell or Not to Sell: A Decision-Making Framework for RSUs

The decision to sell or hold restricted stock units post-vesting is pivotal. Your financial goals, market conditions, and personal risk tolerance should influence this choice. Immediate selling RSUs secures the current value and reduces risk, but holding onto them could lead to significant gains if the company’s stock performs well. However, this comes with the risk of the stock price falling and could result in paying tax on a value that has since dramatically dropped. Balancing these factors with a focus on your long-term financial objectives is critical to making an informed decision about your RSUs. 

It is generally advisable to sell immediately after vesting to minimize concentration risk. Your income and benefits are already correlated to the company you work for. How much of your investments and net worth do you want to be tied up in your company stock also? Additionally, even if you sell currently vested RSUs, you still participate in the growth of the company’s stock through your unvested RSUs. The future of any company’s stock price, whether a tech giant or a startup, can be uncertain. The value of RSUs hinges not only on the company’s success but on how that success aligns with investors’ expectations. 

Each circumstance is different, and personal financial goals must be considered. But it is worth continually reviewing how much of your investments or net worth is tied up in your company’s stock.

Think of RSUs as a Cash Bonus

Viewing Restricted Stock Units (RSUs) as a cash bonus can simplify your approach. If, instead of stock, you received a $50,000 cash bonus, what would you do? Would you immediately take that $50k and buy your company stock? If the answer is yes, then great. The company essentially just did that for you with your RSUs. If the answer is no, consider selling your RSUs and using the cash for other goals or reinvesting in a diversified manner. 

Financial planning that matches your ambition.

Financial advisors for successful professionals, executives, and business owners.

Tax Planning Strategies For RSUs From Bull Oak

Maximize Tax-Deferred Contributions

A good tax and cash flow strategy is to sell your RSUs as they vest, using the funds to support your cash flow. This could free up your base salary or bonuses to ensure you max out other benefits such as your 401(k), ESPP, or deferred comp plan. Many people don’t participate in their deferred comp plan since they want the cash flow. Treating your restricted stock units differently and selling them immediately to supplement cash flow can allow you to optimize other tax-deferred accounts. Or potentially electing to defer your RSUs directly into your Nonqualified Deferred Compensation plan if allowed by your plan guidelines.

Withholding Taxes

Your employer usually withholds a portion of your vested RSUs to cover federal and state taxes. This withholding may not always cover your total tax liability, especially if you’re in a higher tax bracket. Review your current RSU withholding and adjust it if needed. If you can’t change it, consider if additional tax payments are necessary to avoid underpayment penalties.

Donor Advised Funds (DAF)

If you have many RSUs vesting in a given year that could dramatically increase your tax bill, consider bunching multiple years of charitable contributions into one using a Donor Advised Fund. DAFs allow you to contribute to a charitable account in your name and receive a full deduction that year. The money can then be invested, growing your future charitable gifts completely tax-free, and you can make the actual donations to charity whenever you want.

For example, if you give $5k to charity each year but have a significant taxable event coming up to do RSUs vesting. You could take your next four years of charitable contributions ($20k) and put them into a Donor Advised Fund. Now you have $20k in a DAF, and you can deduct that $20k on your taxes. A great feature of a DAF is that you don’t have to give that full $20k instantly; you could stay on your schedule of giving $5k a year but now move the tax savings into the year you need it most.

If you have old shares of company stock with a significant gain that keeps you from selling it, contributing those shares to the Donor Advised Fund is the ultimate tax strategy. Not only do you avoid the capital gains tax and get a deduction for the value of the stock, but you also reduce the concentration of your company stock in your portfolio.

Tax Loss Harvesting

Tax-loss harvesting is the act of intentionally selling and replacing an investment with a loss in order to use the loss to reduce current taxes. If you have a big RSU vest event coming up or older shares with a gain, review your portfolio for any investments with losses that you could swap out to use the losses to offset other investment gains. 

Get Started with Bull Oak

At Bull Oak, we specialize in providing expert financial advice tailored to your unique circumstances. We understand the nuances of equity compensation, including RSUs, and are committed to helping you navigate these complexities. Whether you’re contemplating the best strategy for your RSUs, seeking to optimize your tax situation, or integrating these assets into a broader financial plan, our team is here to guide you.

We invite you to reach out and schedule a complimentary 20-minute phone call with us. Let’s discuss how we can assist you in elevating your financial strategy and achieving your financial goals. Together, we can ensure that your financial decisions are informed, strategic, and aligned with your path to financial freedom.

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