Taxation of RSUs: A Guide

Restricted Stock Units (RSUs) have become a popular form of compensation for employees, particularly in the tech industry. However, understanding the tax implications of RSUs can be complex and confusing. This guide aims to provide an overview of the taxation of RSUs, helping employees navigate through this intricate topic.

RSUs are essentially a promise by the employer to grant shares of company stock to the employee at a future date, more commonly after a vesting period. RSUs have gained popularity due to their simplicity and flexibility, as they do not grant actual shares until they vest. This means that employees do not have to make any upfront payments or worry about the stock’s market value at the time of grant.

The first tax event that employees encounter with RSUs is the vesting event. When RSUs vest, they become taxable compensation. The value of the vested RSUs is considered ordinary income and subject to federal, state, and local taxes. The employer generally withholds taxes on the vested RSUs at the ordinary income rate, just like regular salary or wages.

It’s important to note that RSUs are subject to different rules for income tax purposes than stock options. With RSUs, employees are not required to purchase the stock; it is given to them outright upon vesting. This distinction affects the timing and amount of taxation.

Upon vesting, employees will receive a Form W-2 from their employer, which will include the value of the vested RSUs as part of their total compensation. This value is added to their regular wages, salaries, and other benefits, and the employee will owe income tax based on their tax bracket.

The second tax event occurs when employees decide to sell the RSU shares they have received. The sale of RSU shares is subject to capital gains tax. The tax treatment depends on the holding period of the shares. If the shares are held for less than a year, the gains are considered short-term capital gains and are taxed at the ordinary income tax rates. If the shares are held for more than a year, they qualify for long-term capital gains treatment, which offers preferential tax rates.

It’s important to keep track of the cost basis of the RSU shares to accurately report gains or losses. The cost basis is generally the fair market value of the RSUs on the date they vested. This price is included in the employee’s Form W-2.

Employees who have RSUs should also be mindful of alternative minimum tax (AMT). The difference between the fair market value of the RSUs on the vesting date and the amount paid for the shares is considered a “bargain element” subject to AMT. This can lead to AMT liability for employees, especially if the fair market value of the shares increases significantly between grant and vesting.

In summary, the taxation of RSUs involves two key events: the vesting event, where the value of the vested RSUs is treated as ordinary income subject to regular income taxes, and the sale of the RSU shares, which is subject to capital gains tax based on the holding period. It’s essential for employees with RSUs to understand these tax implications and work with a tax professional if needed.

Navigating the taxation of RSUs can be complex, but armed with knowledge and professional guidance, employees can optimize their tax strategies and make informed decisions regarding their RSU compensation.