Understanding RSA RSU Vesting: A Guide to Employee Stock Incentives

Casey Fenton

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September 25, 2023

In the realm of employee compensation, few things hold as much potential for financial growth as RSA and RSU vesting. Just picture yourself in a company that not only values your contributions but also wants you to reap the benefits of its success. These are what restricted stock awards (RSAs) and restricted stock units (RSUs) are for. 

While these terms may initially seem like a maze of technical jargon, you don’t have to feel perplexed. We're here to guide you and shed light on the implications of RSA and RSU vesting on your overall financial gains and goals.

What is a Restricted Stock Award (RSA)?

Restricted stock awards (RSAs) are grants of company stock given to employees, subject to certain restrictions not readily applied to traditional stock options. These restrictions could include vesting periods, performance milestones, or other conditions specified by the plan rules. 

RSAs have tangible value, as they entitle the holder to ownership of the company stock. However, until the restrictions lapse, employees may not have the full rights and benefits associated with the shares.

What about the Restricted Stock Unit (RSU)?

Restricted stock units (RSUs) are another form of equity compensation that is considered the modern derivatives of stock options. Unlike RSAs, RSUs represent a promise to deliver company stock at a future date upon the fulfillment of specific vesting conditions. 

RSUs do not provide actual ownership of company stock until the vesting requirements are met. Instead, RSUs are essentially bookkeeping entries that track the value of the stock shares. Once RSUs vest, employees receive shares equivalent to the fair market value of the company stock on the vesting date.

Why Do Companies Grant Restricted Stock Anyway?

Risk Mitigation

Adding restrictions to the traditional stock options in the form of RSAs and RSUs helps mitigate the risk of immediate sell-offs by employees. By requiring employees to hold onto their granted shares for a specific period, companies can prevent short-term profit-seeking behavior and promote a long-term perspective. This approach reduces the volatility in the company's stock price and contributes to the stability and consistency of the stock market, benefiting all shareholders.

Alignment of Employee Interest

The restrictions on RSUs and RSAs align the interests of employees with those of shareholders. When employees are subject to vesting conditions, they develop a vested interest in the long-term success of the company. By encouraging employees to think beyond short-term gains, these restrictions foster a shared commitment to the company's growth and profitability.

Employee Retention

RSUs and RSAs with restrictions incentivize employee loyalty and retention. Employees must remain with the company for the duration of the vesting period to fully benefit from their equity grants. This requirement reduces turnover and promotes stability within the workforce. By fostering long-term relationships between employees and the company, these restrictions contribute to a positive work environment and encourage employees to contribute their skills and expertise over an extended period.

Long-Term Value Creation

By encouraging employees to hold onto their RSUs and RSAs, companies promote long-term value creation. Employees are more likely to make decisions that contribute to the company's sustained growth when they have a vested interest in its success. This long-term thinking aligns with the company's strategic objectives and helps drive sustainable performance and shareholder value.

Control of Liquidation Event

Implementing restrictions on RSUs and RSAs allows companies to maintain control over the liquidity of their stock, especially in a liquidation event. If all employees were able to sell their shares immediately, it could lead to market disruptions and potentially undermine the stability of the company's stock price. By regulating the release of shares through restrictions, companies can manage the supply of shares in the market, ensuring a more controlled and orderly trading environment.

By implementing restrictions, companies strike a balance between incentivizing employees, promoting stability in the stock market, and fostering a long-term perspective that supports the sustained growth and success of the organization.

RSA RSU Vesting

Restricted stock award RSA and restricted stock unit RSU are two common stock bonus structures that companies use to provide employees with equity compensation. While they share similarities, there are important differences in the RSA vs RSU vesting mechanisms.

Restricted Stock Awards (RSAs) Vesting

RSA vesting refers to the process by which a restricted stock award becomes fully owned by employees over time. When employees receive RSAs, they are typically subject to a vesting schedule that outlines the timeline and conditions for the shares to vest. The vesting schedule can be based on milestones or time-based intervals. As employees meet the vesting conditions, the RSAs gradually become fully vested shares, and employees gain ownership of the shares.

Restricted Stock Units (RSUs) Vesting

RSU vesting follows a similar concept but with some distinct characteristics. When employees are granted restricted stock units RSUs, they do not receive actual shares at the time of grant. Instead, they receive a promise to deliver shares in the future. 

RSUs typically have a vesting schedule that determines when employees can receive the actual shares. Once the RSUs vest, employees are entitled to the underlying shares or the cash equivalent, depending on the company's plan rules.

A Side-by-Side Comparison: RSA vs RSU Vesting

1. Nature of Grants

Restricted stock award (RSA) involves the direct issuance of shares to employees at the grant date. As a recipient of RSAs, you become an immediate shareholder and have the right to exercise shareholder voting rights. This provides you with a tangible ownership interest in the company's stock.

Meanwhile, restricted stock units RSUs differ in nature, as they do not grant immediate ownership of shares. Instead, you receive a promise to deliver shares at a future date. RSUs do not confer shareholder voting rights until the actual shares are delivered. However, once the RSUs vest, you gain full ownership of the underlying shares or receive the cash equivalent, depending on the company's plan rules.

2. Vesting Schedule

RSAs are subject to a vesting schedule that outlines the timeline and conditions for the shares to become fully owned by employees. This schedule can be based on specific time intervals, such as monthly, quarterly, or annually, or it can be tied to achieving performance milestones. As you meet the vesting conditions specified in the schedule, the RSAs gradually become fully vested shares, and you gain complete ownership of the shares.

RSUs also follow a vesting schedule that determines when you can receive the actual shares or the cash equivalent. Similar to RSAs, the vesting schedule can be time-based or tied to achieving performance milestones. Once the RSUs vest, you gain ownership of the underlying shares or their equivalent in cash.

3. Tax Implications

RSAs come with specific tax consequences. Generally, employees owe ordinary income tax upfront on the fair market value of the shares at the grant date unless they make a Section 83 b election. Making this election allows you to pay taxes based on the current value of the shares at the grant date, potentially mitigating your future tax bill. It's important to consult with tax advisors or financial experts to understand the implications and benefits of making a Section 83 b election.

On the other hand, RSUs are typically taxed as ordinary income when the shares vest and are delivered to you. The tax liability arises at the time of delivery and is based on the fair market value of the shares at that point. It's crucial to consider the timing and method of tax withholding, which may vary depending on your jurisdiction and company policy.

4. Shareholder Voting Rights

With RSAs, you have shareholder voting rights from the grant date since you become an immediate shareholder. This means you can actively participate in shareholder decisions, exercise voting privileges, and have a voice in the company's governance.

Meanwhile, RSUs do not grant voting rights until the shares are delivered. Once the RSUs vest and you gain ownership of the shares, you obtain the same voting rights as other shareholders.

5. Timing of Ownership

Through the vesting schedule, RSAs gradually transfer ownership of the shares to you as you meet the specified conditions. As each milestone or time-based interval is reached, a portion of the RSAs becomes fully vested shares, and you become the outright owner of those shares.

Unlike RSAs, you do not have ownership of the RSUs until they vest and the shares are delivered. At that point, you become the owner of the underlying shares or receive their equivalent in cash, depending on the company's plan contract.

Understanding Vesting Triggers and Lapse of Restrictions

Single Trigger Vesting

Single trigger vesting occurs when the vesting restrictions on restricted stock awards RSAs or restricted stock units RSUs automatically lapse upon the occurrence of a specific event. This event could be a change of control, such as a merger or acquisition, or an IPO (Initial Public Offering). Single trigger vesting allows employees to realize the value of their company grants without the need to meet additional vesting conditions.

Double Trigger Vesting

Double trigger vesting requires the occurrence of two distinct events for the restrictions to lapse. Typically, one event is a change of control, such as a merger or acquisition, and the second event is the termination of employment, either by the company or the employee.

As a vesting condition, the double trigger vesting provides additional protection for employees, ensuring that the value of their equity compensation grants is not lost in the event of a change of control followed by termination.

It is important to review the specific terms of the company grants, including the vesting schedule, restrictions, and tax implications, to fully comprehend the benefits and responsibilities associated with these two stock bonus structures.

Factors Affecting RSAs and RSUs Vesting

Several factors can impact the vesting schedules of RSAs and RSUs:

1. Time-based Vesting

The most common form of vesting requires employees to fulfill a specified period of service, typically measured in years, before the restrictions lapse.

2. Performance-based Vesting

Companies may tie vesting to specific performance milestones or goals, such as achieving revenue targets or reaching operational objectives.

3. Market Conditions

The company's stock price or overall market performance may impact vesting schedules, especially when performance-based criteria are involved.

4. Termination of Employment

The terms of termination, such as voluntary resignation, retirement, or termination for cause, may affect the treatment of unvested RSA shares. The same goes for unvested RSU shares.

5. Change of Control

Merger, acquisition, or IPO events can trigger accelerated vesting or change the terms of the vesting schedule, depending on the company plan rules.

Tax Liabilities of RSA and RSU Vesting

Ordinary Income Tax

When RSAs or RSUs vest, the difference between the fair market value of the shares at the vesting date and the purchase price (if any) is generally treated as ordinary income. Employees are required to pay ordinary income tax upfront on this amount, which is added to their taxable income for the year of vesting.

Capital Gains Tax

If employees sell the vested shares at a later date and realize a gain, they are required to pay capital gains tax. The capital gains tax rate depends on the holding period of the shares. If the shares are held for more than one year after vesting, the gain is classified as a long-term capital gain and taxed at a lower rate than ordinary income. If the shares vest and are sold within one year of vesting, the taxable gain is considered a short-term capital gain and taxed at the individual's ordinary income tax rate.

The 83 B Election and Its Importance

The Section 83 b election is a crucial consideration for employees receiving restricted stock awards RSAs. By filing the Section 83 b election with the IRS within 30 days of receiving the grant, employees can choose to pay taxes upfront based on the fair market value of the stock at the grant date rather than waiting until the vesting date. This election can be beneficial if the stock price is expected to increase significantly, potentially reducing the overall tax liability.

Seeking Professional Advice for Maximum Gains and Lower Risks

Understanding RSA and RSU vesting, as well as the associated tax consequences, is essential for employees to make informed financial decisions. Consulting with financial advisors or tax professionals can provide valuable guidance based on individual circumstances. By optimizing the timing of sales, managing tax liabilities, and considering other investment strategies, employees can maximize the benefits of their equity compensation.

Remember, RSAs and RSUs can be valuable components of your compensation package, providing both financial rewards and a sense of ownership in the company's success.

And if this RSA vs RSU vesting guide has convinced you of the flexibility of the latter equity compensation plan, you’ve found an ally with us. At Upstock, we ensure that the RSU plans of employees are well-taken care of and cost-effective. To know more about our equity compensation offerings, send us a message here.

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ABOUT THE AUTHOR

Casey Fenton

Founder, Upstock & Couchsurfing, AI and Equity Innovator

Casey Fenton, the founder of Upstock & Couchsurfing and an AI and equity innovator, has revolutionized how we perceive and implement equity in the workplace. His foresight in creating platforms that not only connect people but also align their interests towards communal and corporate prosperity has established him as a pivotal figure in technology and community building. Casey speaks worldwide on topics including ownership mindset, worker equity, With Upstock and Couchsurfing, he has demonstrated an unparalleled expertise in harnessing technology for the betterment of community interaction and organizational benefits.

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