If you are on the receiving end of an equity compensation award, you may be overwhelmed by the amount of new information, jargon, and rules coming your way. You might also feel uncertain about how new equity grants and vesting schedules should fit into your existing financial plan.

To begin, you can start by focusing on a few fundamentals about how your specific benefits work. Regardless of what kind of equity compensation you have, two critical components to understand will be grant dates and vest dates.

Here’s what actions you can consider taking when each of these important events occurs.

What Happens When Your Equity Compensation Is Granted

Your company can grant equity compensation for essentially any reason it chooses, but it’s most commonly offered as part of a hiring package, a company benefit, or a reward for meeting a performance metric.

Generally speaking, receiving an equity compensation grant is a non-taxable event. In many cases, you may not be able to do anything with that grant right away because of another important date: the vest date.

Grants are often issued with a vesting period that you must meet before the awards vest, and before you can access the potentially valuable benefits of the grant. That doesn’t mean, however, that you should just ignore your grants.

Important Information to Know Once You Receive a Grant

When you receive a grant, you should note some key facts and dates associated with your equity compensation award. Some of these key dates and key facts include:

  • The type of award you are receiving (i.e., stock options or restricted stock)
  • When your awards vest
  • When your awards expire (for stock options)
  • What the strike price of the award is (for stock options)
  • What happens to your award if you leave your company
  • What happens to your award if the company merges, is sold or goes through some other change of ownership.

You can usually obtain this information by reading through your grant agreement and your company stock plan document. This information can be helpful in most appropriately integrating your equity compensation into your financial plan.

You can use this information to build a financial plan that integrates your equity compensation. The goal here is to be proactive in making decisions, rather than waiting and then being forced to simply react (or follow the only path available due to deadlines or other restrictions).

Beyond integrating your equity compensation into your financial plan, you should also confirm whether or not you have the option for an 83(b) election. If you do, there may be more actions to take.

The Basic Ins and Outs of 83(b) Elections

If you’re eligible, an 83(b) election can be used to minimize the tax implications of a rising stock price by allowing you to exercise your stock options early, or by reporting income for restricted stock awards prior to the vesting date.

For stock options, you may be able to do an “early exercise” before the vest date. If you have restricted stock awards (not restricted stock units), you may be able to file within 30 days of receipt of the award.

If an 83(b) is something you want to consider, it’s wise to consult with your financial advisor and your CPA to be sure of the nuanced details that go into reporting the event when your election is met.

What Happens When Your Equity Compensation Vests

What happens when your equity compensation vests will depend on the type of grant you receive.

When your restricted stock vests, shares of stock (assuming a stock settlement) are commonly deposited into a brokerage account for your benefit at the company custodian of choice. Don’t be surprised if the number of shares deposited is less than the number of RSUs that vested.

A taxable event occurs when your RSUs vest, and your company will often withhold the applicable taxes via holding back shares prior to depositing the remaining shares into your account. They do this via a share-withholding or a sell-to-cover.

If you receive 1,000 RSUs that have fair market value of $50 per share when they vest, the total taxable value of your RSUs when they vest is $50,000. That $50,000 is reportable as taxable income to you in the year the shares vest.

This value will be taxed like your other earned income. To accommodate for the pending tax bill and to prevent you from owing too much at year end, your company will often withhold taxes for you at a statutory federal tax rate of 22% (or 37% if your income is over $1,000,000).

So, in this example, your company might hold $11,000 worth of shares (or 22%) to generate the proceeds necessary to cover the taxes owed via a sale or share-withholding.

To cover $11,000 of taxes, they would sell 220 of your shares ($11,000 / $50 per share). They would then deposit the net number of shares, 780, into your account.

Keep in mind that the above is only an example of what may happen, and you need to confirm how your company handles shares on your behalf. You may still owe more taxes if your tax bracket requires that you pay more than 22%, or you might need to cover additional taxes like Social Security, Medicare, and state taxes. A tax professional can likely help you sort the details.

What to Know If You Have Vested Non-Qualified and Incentive Stock Options

Unlike RSUs, vesting isn’t a taxable event for non-qualified stock options (NQSOs) and incentive stock options (ISOs). With options, vesting simply means that you can act upon your ability to exercise that option if you chose. You don’t create a reportable tax event until you exercise.

If you didn’t act on an early exercise (or didn’t have the ability to do so), then the option vest date is your first opportunity to take action. In general, you can do one of two things at this point: do nothing and wait to exercise at a future date, or exercise your options now.

Determining the right action can get complicated. To decide, you should consider what the value of the award is, how this fits into your other equity compensation, what activity on your options may have already occurred, what the tax bill may be, what your own investment risk tolerance looks like, and your overall financial planning goals and objectives.

If you exercise NQSOs, the reportable tax event looks very similar to RSUs above. The value created via the exercise is taxable as ordinary income. Your company will typically withhold the taxes you owe via a share-withholding or sell-to-cover. They’ll then deposit the net amount of shares into your brokerage account.

If you have ISOs, the tax rules associated with exercising get much more complicated. You may need to address the alternative minimum tax, ordinary income tax, and cash flow constraints associated with a taxable event for which no tax is withheld (even if you sell your ISO shares).

Equity Compensation When Awards are Granted and Vested

If you receive equity compensation from your employer, familiarize yourself with the terms “granted” and “vested.” By understanding what each means for your equity, you can better integrate those rewards and shares into your financial plan.

Being proactive here will hopefully lead you to a better, more complete, and accurate decision to get you to your desired financial outcomes.

Originally published by Daniel Zajac, 10/29/20


The content herein is for illustrative purposes only and does not attempt to predict actual results of any particular investment.   All investments are subject to risk, including the risk of principal loss.  Diversification does not guarantee a profit or protect against a loss.  None of the information in this document should be considered as tax advice.  You should consult your tax advisor for information concerning your individual situation.  Tax services are not offered through, or supervised by, The Lincoln Investment Companies.