How Restricted Stock Units May Impact Your Taxes

Restricted Stock Units (RSUs) have become a popular form of stock compensation from employers as an incentive to attract and retain talent. While they can become a significant part of your net worth over time, it’s essential to understand the tax implications to eliminate any unwelcome surprises.

Let’s start with the basics:

What Are Restricted Stock Units (RSUs)?

Restricted stock units are a form of company stock shares that may be granted to you as an employee. They’ve become a popular type of compensation in the tech industry, and for some employers, RSUs make up over 50% of total annual pay. Publicly-traded tech giants like Amazon, Apple and Google competing for top talent are known for leveraging RSUs as part of their employee compensation packages.  

RSUs are “restricted” because they’re subject to a vesting schedule. The schedule may be based on your length of employment or performance goals. They may also be governed by other limits on transfers or sales that a company can impose.

For example, your employer may grant RSUs that do not vest for three years. In this case, you must remain employed by the company for that time in order to possess a vested right to the stock. If you resign before the end of the three-year vesting schedule, you forfeit the stock back to the company.

How Are Restricted Stock Units (RSUs) Taxed?

RSUs are taxed differently than other forms of equity compensation, such as stock options and Employer Stock Purchase Plans (ESPPs). When you receive RSUs, you don’t have any immediate tax liability. You pay taxes when your RSUs vest and you receive the payout of stock shares. At that point, you must report income based on the fair market value of the stock. 

Most companies withhold taxes from vested RSUs using the flat IRS rate for supplemental wage income. For 2022, that rate is 22% on supplemental wages up to $1 million and 37% for wages in excess of $1 million. Your RSU compensation, combined with your regular salary, may make your actual marginal tax rate much higher than the supplemental withholding rate when you need to pay taxes. 

Additionally, since RSUs are taxed as ordinary income as they vest, you have no ability to time your taxes as you would with exercising stock options. 

Example of Potential RSU Tax Liability

Let’s say an employee whose marginal tax rate is 37% vested in 2,000 shares with a fair market value of $50 per share from an RSU grant in 2022. Here’s how funds would be withheld and then eventually taxed:

1. Employee RSU redemption: In calendar year 2022, the employee redeems $100,000 ($50 share price * 2,000 shares) of his/her vested RSUs.
2. Employer Withholding: Upon redemption, the employer withholds $22,000 of the employee’s RSU income based on a supplemental withholding schedule (22% supplemental rate * $100,000 of the RSU income).
3. Employee W2 received: In January 2023 when the employee’s W2 arrives, he/she sees the additional $100,000 RSU income and knows it will be taxed entirely in the top marginal tax rate bracket (37%).
4. Tax preparation time: When preparing his/her tax return in 2022, the actual tax due from RSUs is = $37,000 (37% ordinary income tax rate * $100,000).
5. Tax surprise: Since funds from his/her RSUs redemptions were withheld at the 22% supplemental rate he/she has to come up with an additional $15,000 ($37,000 minus $22,000 already withheld by the employer) out-of-pocket to pay taxes due on April 15th.

How to Offset RSU Tax Burdens

While there is no strategy to reduce or defer taxes related to this form of stock compensation, with some proactive planning you may be able to identify how much additional tax may be owed in case your employer did not withhold enough to cover the tax on your newly vested shares.

You could plan your cash flow to pay this additional tax or look to sell additional vested shares to offset your total tax bill. 

Our team is prepared to help you with tax strategies and planning around RSUs. To set up a free consultation, please click on the button below to schedule a time that works best for you.