RSU as Retirement Plan

Upstock Team

June 8, 2023

RSU as Retirement Plan

August 30, 2023

RSU as Retirement Plan

Retirement is a crucial aspect of financial planning, and there are various investment options available to help individuals secure their golden years. 

One lesser-known yet powerful tool in this realm is Restricted Stock Units (RSUs), which can serve as an effective retirement tool for employees of publicly traded companies, especially in the tech industry. RSUs are a form of equity compensation package that companies use to reward their employees with stock units. It is becoming increasingly popular as a retirement tool due to its flexibility and tax benefits. 

In this article, we will explore how Restricted Stock Units (RSUs) can be used as a retirement tool and the financial benefits they offer.

What are Restricted Stock Units (RSUs)?

RSUs are stock options that most tech companies in the tech industry provide to their employees. Unlike traditional stock options, Restricted Stock Units (RSUs) do not require the employee to purchase the stock units at a predetermined price. Instead, the tech companies grant the employee a specific number of shares, which vest over time coinciding with continued employment. Once the shares have vested, the employee can sell them at the current market price.

RSU as Retirement Plan: How It Works

Restricted Stock Units (RSUs) are typically granted to employees with a vesting period, which is the duration of time an employee needs to wait before the RSUs are fully granted and can be sold or held. Once the RSUs vest, employees have several options for how they can use them as retirement tools.

1. Sell RSUs to Generate Retirement Income

One option is to sell the vested Restricted Stock Units (RSUs) on their vesting date and use the proceeds as a source of retirement income. This can be especially useful for employees who need immediate income flow during their retirement years. By selling the RSUs, employees can convert them into cash and use the proceeds to fund their retirement expenses, such as living expenses, healthcare costs, or travel plans. 

However, it's important to keep in mind that the proceeds from selling RSUs are subject to ordinary income tax in the year of the sale, which should be considered when planning for retirement income.

2. Hold RSUs as Part of a Long-Term Investment Portfolio

Another option is to hold onto the vested Restricted Stock Units (RSUs) as long-term investments. By keeping the RSUs, employees can potentially benefit from any future appreciation in the company's stock price. This can be a powerful wealth accumulation strategy, as it allows employees to participate in the growth of the company they work for. Holding RSUs as part of a long-term investment portfolio can provide a source of retirement wealth that can potentially grow over time and provide a nest egg for retirement. 

However, it's important to carefully consider the risks associated with holding a single stock, as the value of the stock can fluctuate, and employees may not receive the anticipated value of the RSUs if the company’s stock price decreases.

3. Diversify Retirement Portfolio with RSUs

Restricted Stock Units (RSUs) can also be used as a way to diversify a retirement portfolio. Many employees rely heavily on their stocks for their retirement savings, such as through a 401(k) plan. By holding RSUs, employees can diversify their retirement investment portfolio by adding exposure to a different asset class, i.e., company stock, to their diversified portfolio. 

Diversification as part of financial planning can help mitigate risk and provide a more balanced investment strategy for retirement. However, it's important to carefully assess the overall risk profile of the retirement portfolio and consider factors such as the size of the RSU grant, the employee's risk tolerance, and the performance of the stock units.

RSU retirement planning may involve decisions on how to invest the proceeds from RSUs. One option is to invest in mutual funds, which offer diversification and professional management. However, it's important to carefully evaluate and choose mutual funds that align with one's investment goals, risk tolerance, and time horizon.

4. Consider Tax Strategies

Restricted Stock Units (RSUs) are subject to taxes, and employees should be aware of the tax implications when using RSUs for retirement. On the vesting date, the value of the RSUs is considered ordinary income, and employees are required to pay taxes on that value at their ordinary income tax rate. However, employees can potentially optimize their tax liability by strategically planning when to sell stock.

For example, selling Restricted Stock Units (RSUs) in a year when the employee's income tax rate is lower, such as during retirement when their income may be lower, can result in a lower tax bill. It's important to work with a qualified tax professional to develop tax and financial planning strategies that align with an employee's overall financial situation and retirement goals.

Advantages of Restricted Stock Units (RSUs) for Retirement

RSUs can offer several advantages as a retirement planning tool for employees. Here are some key financial benefits:

1. Potential for Significant Wealth Accumulation

Restricted Stock Units (RSUs) can provide employees with an opportunity to accumulate significant wealth over time, especially if they work for a company that experiences substantial stock price appreciation. As RSUs typically vest over a period of time, employees have the potential to receive a significant value of company stock if the stock’s price rises during the vesting period. This can be a valuable source of retirement wealth that can help employees achieve their retirement goals, such as funding their lifestyle, travel plans, or other retirement expenses.

2. Alignment of Interests with the Company

Restricted Stock Units (RSUs) can align the interests of employees with the performance of the company they work for. Since RSUs are tied to the company stock, employees have the incentive to contribute to the company's success and share in the growth of the company. This alignment of interests can create a sense of ownership and motivation among employees, leading to increased engagement and loyalty to the company. Additionally, when employees hold RSUs as part of a long-term investment portfolio, they may benefit from the company's success and growth, which can further enhance their retirement savings.

3. Flexibility in Retirement Income Strategies

Restricted Stock Units (RSUs) offer flexibility in retirement income strategies. Employees can choose to sell stock upon vesting to generate immediate cash flow for retirement expenses. Alternatively, they can hold onto RSUs as long-term investments to potentially benefit from future stock price appreciation. This flexibility allows employees to tailor their retirement income strategy based on their individual financial needs, goals, and risk tolerance. RSUs can also be used in conjunction with other retirement savings vehicles, such as 401(k) plans and IRAs, to create a diversified portfolio for retirement.

4. Tax Planning Opportunities

Restricted Stock Units (RSUs) offer tax planning opportunities for retirement. While RSUs are subject to federal income tax upon vesting, employees have the option to optimize their tax liability by strategically planning when to sell their RSUs. For example, employees can consider selling RSUs after the retirement date when their income may be lower, resulting in a potentially lower tax rate. Additionally, employees may have the opportunity to defer RSUs through a deferred compensation plan if offered by their employer, which can help manage their tax liability during their working years and potentially lower their tax burden in retirement.

5. Customization to Employee Needs

Restricted Stock Units (RSUs) can be customized to meet the unique needs of employees. Employers have flexibility in structuring RSU grants, such as the timing and size of stock grants, which allows for customization based on an employee's role, performance, and other factors. This customized financial planning can help align RSUs with an employee's specific retirement goals and financial situation, providing a personalized retirement planning approach.

When Is It Disadvantageous to Use RSU Company Stock for Retirement?

While RSUs can offer advantages as a retirement planning tool, there are circumstances where relying heavily on them may be disadvantageous. These may include:

1. Concentration Risk

Relying solely on Restricted Stock Units (RSUs) and company shares for retirement savings can expose employees to concentration risk. If the stock units perform poorly or experience a downturn, it can have a significant impact on the value of the RSUs and company shares held by employees, potentially jeopardizing their retirement savings. 

2. Lack of Diversification

Holding a significant portion of retirement savings in Restricted Stock Units RSUs can result in a lack of diversification. Diversification is a key risk management strategy that spreads investments across different assets to reduce the impact of a single investment's poor performance. Over-reliance on RSUs and company shares can expose employees to the risks associated with the performance of a single stock, which may not be suitable for all investors.

3. Volatility and Market Risk

Restricted Stock Units (RSUs) and company shares are subject to market volatility and risk. Stock values on stock grants can fluctuate widely in response to various factors, and employees who hold RSUs as part of their retirement savings may experience significant fluctuations in the fair market value of their investments. The market value can impact their retirement savings and may not align with their needs or goals after their retirement date from work. Understanding the risks associated with the stock market and diversifying investments accordingly is essential.

4. Tax Implications

Restricted Stock Units RSUs offer tax planning opportunities, but they also have potential tax consequences. RSUs are subject to certain taxes upon vesting, which means employees may face a substantial tax liability when their RSUs vest. This can impact cash flow and potentially reduce the amount of retirement savings available for other purposes. Additionally, if RSUs are sold, employees may be subject to tax on any gains made, depending on the holding period. Carefully evaluating the tax ramifications of RSUs is important for effective retirement planning.

5. Lack of Control and Liquidity

Restricted Stock Units RSUs are subject to a vesting schedule and may have restrictions on selling or transferring until they fully vest. This lack of control and liquidity can limit employees' ability to access their retirement savings when needed. Additionally, employees may have limited control over the performance of the stocks, as it is influenced by various external factors. This lack of control and liquidity may not align with the retirement needs or goals of all employees.

RSU Tax Obligations and Considerations for Retirement Planning

Restricted Stock Units RSUs can have significant tax liabilities that should be carefully considered as part of a retirement planning strategy. Here are some key tax obligations and considerations to keep in mind:

1. Ordinary Income Tax upon Vesting

When RSUs vest, the value of the vested RSUs is treated as ordinary income, and employees are required to pay ordinary income taxes on that amount. This can result in significant tax liability and impact income flow, as employees may need to set aside funds to cover the tax obligation.

2. Timing of Tax Liability

It's important to be aware of the timing of the tax liability associated with RSUs. Depending on the vesting schedule and the company's stock performance, employees may face a large tax bill all at once when RSUs vest. This can impact retirement savings, cash flow, and tax planning strategies. Planning ahead and consulting with a tax professional can help manage the timing of tax liabilities associated with RSUs.

3. Owe Capital Gains Tax on Sale

If employees decide to sell their RSUs after they have vested, they may be required to pay capital gains taxes on any gains made from the sale. The tax rate depends on the holding period of the RSUs and the individual's income tax bracket. It's important to be aware of the potential tax liabilities and factor them into retirement planning decisions.

If employees hold onto the company shares received from RSUs and sell them at a later date, any gains realized may be still subject to capital gains tax. The rate of capital gains tax depends on various factors such as the holding period and the individual's tax bracket. Long term capital gains tax rates are generally lower than ordinary income tax rates for shares held for more than one year, while short term capital gains tax rates apply to shares held for one year or less.

4. Tax-Deferred Retirement Accounts

RSUs can be used in conjunction with tax-deferred retirement accounts, such as a 401(k) or an IRA, to manage tax obligations. By contributing a portion of the RSU proceeds directly into a tax-deferred retirement account, employees can potentially reduce their taxable income for the year and defer taxes on the contributed amount until retirement when they may be in a lower tax bracket. This can provide tax advantages and help optimize retirement savings.

5. State and Local Taxes

It's also important to consider state and local taxes when planning for RSU-based retirement. Tax treatment of RSUs may vary by state and locality, and employees may be subject to additional state and local taxes upon the vesting date or sale of RSUs. Consulting with a tax professional familiar with the specific tax laws in the employee's state or locality can help ensure that all tax obligations are considered in retirement planning.

6. Tax Planning Strategies

Effective tax strategies can help optimize RSU-based retirement planning. This may include strategies such as harvesting losses from other investments to offset gains from RSUs, timing the sale of RSUs to manage capital gains tax liability, or utilizing tax-deferred retirement accounts to minimize current tax obligations. It's essential to work with a financial advisor or a qualified tax professional to develop a tax plan that aligns with retirement goals and financial circumstances.

Other Tax Considerations

Estimated Taxes and Tax Advisor

RSUs can create additional tax obligations that may require estimated tax payments to be made to the tax authorities. It's important to work with a qualified tax advisor to understand and manage estimated tax requirements, especially during early retirement or pre-retirement years when income flow may be impacted by RSU taxation.

Social Security Benefits and Tax Implications

RSU income may impact Social Security benefits in retirement. The actual market value of the vested RSUs is considered as income and may increase the taxable portion of Social Security benefits. This could result in additional taxes on Social Security benefits, especially if the RSU income pushes the individual's income above certain thresholds.

Tax Implications of Brokerage Account

If employees receive company shares from RSUs and hold them in a brokerage account, any dividends or capital gains earned on those shares may also be subject to taxes. It's important to understand the tax implications of a brokerage and consider strategies such as tax-loss harvesting or tax-efficient investing, including the use of mutual funds, to optimize tax outcomes.

Tax Withholding and Grant Agreement

RSU grant contracts may specify the amount of tax withholding that will be applied at vesting. It's important to review the grant agreement with a financial planner and understand provisions on how the company withhold taxes to avoid any surprises and plan for potential cash flow impact due to the company’s decision to withhold taxes. Consulting with a tax professional is necessary, considering their impact on net worth.

Grant Date and Fair Market Value

The fair market value (FMV) of the RSUs on the grant date is used to determine the amount of taxable income upon vesting. It's important to be aware of the FMV on the grant date, as it can impact the overall tax liability associated with RSUs.

Grant Price

RSUs may have a grant or an exercise price, which is the price at which the RSUs are converted into company shares upon vesting. The difference between the grant price and the FMV on the vesting date is considered as taxable income. It's important to understand the grant price and plan for potential tax implications, as it can affect the overall tax liability associated with RSUs.

Additional Taxes and Yearly Maximum

In addition to ordinary income tax and capital gains tax, there may be other taxes associated with RSUs, such as Medicare taxes and state or local taxes. It's important to understand the yearly maximum for these taxes and plan accordingly to manage the overall tax burden associated with RSUs.

Vested Shares and Pre-Retirement Years

Vested stock plan may be subject to taxation for early retirement, which can impact cash flow and overall retirement planning. It's crucial to understand the tax implications of vested shares during pre-retirement years and plan for potential tax obligations.

Bottom Line

RSU can be an effective retirement tool for employees who work for a company that offers this type of stock compensation package. Its flexibility and tax benefits make it an attractive option. It offers several advantages as a retirement planning tool, including the potential for significant wealth accumulation, alignment of interests with the company, flexibility in retirement income strategies, tax planning opportunities, and customization to employee needs. 

However, it's important for employees to carefully consider their individual financial situation, risk tolerance, and retirement goals when incorporating RSUs into their retirement portfolios. Consulting with a financial advisor or tax advisor can be helpful in developing a comprehensive retirement strategy that leverages the advantages of RSUs for a successful retirement.

Meanwhile, for all things RSU, you can check out our blogs to know more about how this equity compensation package can help you fund your short and even long-term financial goals, as well as how companies can reward employees with equity ownership. Alternatively, if you wish to speak to one of our equity experts, just drop us a line here.

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