How Are RSUs Taxed?

Restricted stock units, or RSUs, have become a popular form of employee compensation in recent years. Employers use RSUs as an incentive to attract and keep top talent, but they’re different from the usual stock options you might be more familiar with.

One critical difference is that you can pay taxes on RSUs twice: once when the stocks have vested and then again when you sell them. But before you panic about a huge tax bill, know there are ways to plan and ensure you don’t pay more taxes on RSUs than you need to.

So, if you’re looking for more information about this component of your compensation and wondering how RSUs are taxed, keep reading to learn more.

Key takeaways

• RSUs are a form of compensation that grants the employee company stock shares based on the employer’s vesting schedule.
• RSUs are generally taxed when fully vested and again when you sell the shares for a profit.
• You can only sell restricted stock units after they’ve vested.
• How long you've held the stock after vesting determines whether you pay short-term or long-term capital gains taxes.
• Working with a tax advisor can help you determine what’s best for your specific situation.

What are RSUs?

RSUs are a type of stock-based compensation you might receive as part of your overall employee compensation package. Similar to when offering stock options and other forms of equity compensation, companies may grant RSUs at the time of hire to attract top talent or as part of a raise or promotion package.

Both stock options and RSUs offer employees the chance to have equity in their company, but they do so in different ways. Stock options give employees the right (but not the obligation) to purchase company stock at a predetermined price. RSUs don’t require a purchase and are instead a promise to provide employees with a certain amount of shares over time.

These shares don’t belong to you immediately when the company grants them. Instead, the company pays them out to you over time based on a vesting schedule.

The value of RSUs can fluctuate between the grant date and the vesting date, depending on the value of the company’s stock. When the company’s stock rises, so does the RSU value; if the share price decreases, so will the RSU value.

Companies tend to like granting RSUs over other bonuses or compensation. Not only does the company not have to provide cash upfront, but employers can also typically take a tax deduction for the value of the RSUs included in employee income.

On the employee side, RSUs and other stock options can be motivating since they offer a sense of ownership. This might make them more likely to invest in the company’s long-term goals and profitability and (hopefully) raise its overall share price.

How do RSUs work?

RSUs don’t provide any upfront compensation to the employee. The company awards them if you reach specific milestones outlined by its performance metrics and vesting schedule. (Vesting is the time between when the company grants you the RSUs and when you officially own the stock and can sell it as usual.) This typically takes three to five years, but each company can set its own vesting schedule.

For example, a company might grant you 1,000 RSUs and lay out the vesting schedule as follows:

• 20% after twelve months of service
• 10% every quarter after the first full year of service until you have 1,000 stock units

In this scenario, you would own 200 stock units after twelve months of employment. Your company would then award additional stock units, in increments of 100, for every quarter of service after that (up to 1,000 units). You would own 100% of the vested shares after your third full year of employment (200 units after one year plus 100 units for eight quarters) – minus any that you may have sold.

The fair market value on the vesting day determines the value of your RSU shares. So, if the fair market price was $10 on the day the 200 shares above became vested, your shares would be worth $2,000.

If you fail to fulfill the obligations laid out in the vesting schedule, either by failing to meet performance metrics or leaving the company before the vesting timeline is complete, you forfeit any unvested shares.

In the example above, if you were to quit your job at 13 months, you would own (and have to pay taxes on) the 200 units of stock that had vested and transferred to you. However, you would forfeit all remaining units not vested when you left the company.

If you work for a privately held company, your RSU ownership rights may differ, so be sure to read the fine print of your RSU agreement and vesting schedule carefully.

How are RSUs taxed?

RSUs are typically taxed twice – once upon vesting and potentially a second time when you sell the shares. You don't owe taxes when your employer first grants the RSUs, but you’ll have to pay taxes as each portion of the RSU shares vests.

Taxation upon vesting

Since restricted stock units are considered compensation, you’re responsible for paying taxes on all shares that vest. Vested shares are usually considered ordinary income and subject to regular federal income taxes in the year they vest. RSUs are also subject to payroll taxes like Medicare and Social Security taxes as well as potential state and local income taxes.

If 200 shares vest this year and the fair market rate is $10 per share, you’ll have $2,000 worth of income in addition to your other compensation in 2024. Assume your shares are taxed at 30% based on a 22% marginal federal income tax rate and a 7.65% combined Social Security and Medicare tax rate. This means you could owe another $600 alongside the federal income and payroll taxes on your regular compensation.

Since the IRS considers RSUs and other stock grants to be ordinary income, your employer will likely withhold a certain amount to cover the federal, state, and local taxes on any RSUs that vest during the year. If your employer withholds no taxes or too little, you’ll need to make up the difference.

Taxation upon sale

Once you own the stock and pay the initial taxes, the shares are the same as if you purchased them yourself. This means you might have to pay federal income taxes when you sell your awarded shares for a profit. Similarly, if the stock’s value decreases from the original fair market value, you can use the loss to offset capital gains from other stocks.

How long you hold the shares after they vest will determine whether you have to pay short- or long-term capital gains taxes.

• If it’s for no longer than one year, you’ll pay short-term capital gains taxes based on your normal marginal federal income tax rate of 10%, 12%, 22%, 24%, 32%, 35%, or 37%.
• By holding the stock for longer than a year, you can qualify for potentially lower long-term capital gains rates of either 0%, 15%, or 20% (based on your annual income and filing status).

For example, if you sell your 200 RSU shares (with a fair market value of $10 on vesting day, or $2,000 total) for $12 a share, you’ll receive $2,400. Because you paid taxes on the initial $2,000 the year the stock vested, you’ll only have to pay federal taxes on the $400 profit when you sell.

If you sell your shares within a year of holding them, you’ll pay short-term capital gains tax on the $400 profit. Assuming your income tax bracket is 24%, you’ll owe $96 in federal taxes. But if you qualify for long-term capital gains by holding the stock for more than a year, and assuming your total income qualifies you for the 15% rate, you’ll pay $60 in taxes on the same $400.

Handling taxes on RSUs

As you can see, handling taxes on RSUs can get complicated, so it's best to work with a tax professional to ensure you’ve covered all the details. But if you plan to file your own taxes, you’ll need to know how to handle the RSU information provided by your employer and brokerage.

Reporting RSUs on tax returns

Start by gathering your tax documents and paying particular attention to any supplemental information you receive from the brokerage account holding the RSU shares.

You’ll generally need the following documents to pay taxes on your RSUs accurately.

• W-2 or 1099-NEC (obtained from your employer or contracting firm)
• IRS Form 1099-B (obtained from your brokerage), which details any stock sales for the year and helps you calculate capital gains and losses
• Any supplemental information provided by your brokerage firm with details not reported on the 1099-B

Your employer usually includes the fair market value of your RSUs as part of your listed income on your W-2 (typically found in boxes 1, 3, and 5) along with any federal taxes withheld (found in boxes 2, 4, and 6). For state and local tax purposes, you’ll find the value of your award included in your income in boxes 16 and 18 and the withheld state and local taxes in boxes 17 and 19.

The documents above will help you complete the following tax forms submitted to the IRS.

• IRS Form 8949 to report the sales and exchanges of capital assets
• IRS Schedule D to report the sales and exchanges of capital assets not reported on another tax document
• IRS Form 1040 to file your annual income tax return

Paying taxes on RSUs

Generally, your employer withholds money from your paycheck to cover taxes when shares vest. If your company doesn’t withhold enough to cover your total tax bill, you’ll likely need to pay estimated taxes directly to the IRS in the quarter you received the stock. Quarterly estimated payments are due by the 15th of the month after the end of each quarter (April 15th, June 15th, September 15th, and January 15th of the next year).

If, for example, you receive your stock grant in July and your employer didn’t withhold enough from your paycheck, you’ll need to pay the estimated difference in tax owed no later than September 15th. Otherwise, you may have to pay a penalty.

Some employers may allow you to take the taxes out of the shares received instead. So if you need to withhold 30% for taxes and you receive 100 shares in a quarter, your employer might let you sell 30 shares to cover your tax bill. You would keep the remaining 70 shares.

Tips for minimizing taxes on RSUs

As you learn how to invest money, approaching your taxes strategically will become important. To help ensure you aren’t paying more than necessary, consider the following tips.

Wait to sell for at least a year: While you might be itching to take advantage of a recent profitable rise in stock prices as soon as your shares vest, do your best to hold your RSUs for at least a year. That way, you’ll avoid paying potentially costlier short-term capital gains taxes on your profits. However, be aware of how much company stock is in your portfolio and work with a financial advisor to help you diversify and protect yourself from market volatility.

Take advantage of tax deductions: You may not be able to reduce the amount of owed tax on your RSUs, but you can find other ways to cut your tax bill by taking advantage of every tax deduction you’re entitled to. Keep receipts of any large charitable donations, medical expenses, and any other documents that may prove you qualify for a tax deduction.

Work with a tax advisor: To ensure you’re maximizing your tax deductions, consider working with a qualified tax advisor. Consulting with an advisor can provide insight into the most advantageous time to sell RSUs and other securities as well as help minimize any taxes owed.

FAQ

Bottom line

Being awarded RSUs can show how much the company values your contributions as an employee and be a nice addition to your compensation package. However, you must understand how restricted stock units work and how they’re taxed to develop a strategy that doesn’t leave you with a massive tax bill.

Work with a tax advisor to help determine when to sell your restricted stock units so the sale works in your favor instead of leaving you with a headache. Also, consider the need to set aside the estimated taxes you may owe when your shares vest and when you sell them.