If you work in the private sector, there’s a good chance that part of your compensation is paid in company stock. This can take the form of options, stock purchase plans, restricted stock or other programs. Making the right choices with company stock is critical when it’s a sizable portion of your net worth. Not only do you need to think about managing your risk while participating in your company’s success, but also there are tax consequences to your actions.
When we think about company stock, most of the focus is on startups. The Boulder-based Techstars program has helped nurture hundreds of startups around the country including local success story SendGrid, now a public company valued at over $1 billion. Bigger tech companies with a local presence including Google and Nest, Twitter, Amazon, Apple, Oracle, and Ball also pay a significant portion of employee compensation in company stock.
While good advice on company stock must be tailored to your situation, there are some general rules that you can use to help guide your decisions.
Employee Stock Purchase Plan (ESPP). These plans offer a discount on company stock of at least 15 percent. While signing up for a regular savings program is good, getting an immediate bargain on the shares is even better. For most it makes sense to immediately sell the company shares after purchase when they can. Sure you have to pay ordinary income tax on the gain (including the bargain). But the only reason you owe tax on it is because you made out like a bandit buying company shares on the cheap. Most workers have plenty invested in their employer in the form of their career and don’t need more of their financial success tied into the future valuation of their company.
Restricted Stock Units (RSUs). Known as RSUs, restricted stock units are like company stock shares. Often they are issued in grants that become available to you over four years. When an RSU grant vests, you receive company stock which is taxed as employment income. For public companies, we usually recommend you sell the stock when you can. You already owe payroll and income tax when you receive the shares as RSUs are taxed like wages. Selling shares soon after receipt will usually result in little additional tax.
Restricted Stock. Restricted stock is similar to an RSU, except there are additional strategies you can use. If you’re being granted equity in a private company over time, you may be able to file an 83(b) election soon after the grant to lower your taxes if you stay at the company for years and the value appreciates. You may also qualify for very low Qualified Small Business Stock treatment that could lower your taxes dramatically if you hold on to the shares for five years.
Stock Options. Stock options give you the ability to purchase company stock at a certain price typically for ten years from the award. You choose when in that time you want to exercise the option, which means purchasing the stock at the price from when you received the original grant. Decisions about stock options should be made with your personal financial and tax situation in mind. Options give you the power to participate in your company’s success without investing your own money. Adding to the complexity is that there are two major types of stock options: non-qualified stock options (NQSOs) and incentive stock options (ISOs) with differing tax implications.
If you have a significant amount at stake with company stock, you should seek out qualified investment and tax guidance. Of the four categories above, ESPPs and RSUs are more straightforward, while restricted stock and stock options can get fiendishly complex. This is one area in which paying for good advice could be worth your while.