Sitting on a Pile of Employer Stock? What now?

If you have been working for an employer that lets you acquire company stock through various programs, you may be wondering what to do with it. Stock is a valuable asset and needs to be included in your financial planning. Because it is connected to the place where you work and give so much of your time, it may evoke an emotional connection that can mislead you. I want you to think more like a wealth manager and your stock as simply one of your assets. 

You’ve probably heard stories about people who held their stock for decades and it became incredibly valuable! That is everyone’s fantasy: do nothing and get rich. Sometimes it happens but the odds are against you. You are much more likely to get rich by proactively managing your assets and picking good investments.

When thinking like a wealth manager, consider these guidelines:

1. Don’t take big risks to get average returns.
2. Don’t let one type of stock grow to become too big a part of your portfolio.
3. Have an overall investment plan and get your money invested. 

RISK AND RETURN

The problem with stock in individual companies is that it is inherently more risky than having investments in lots of different things. An individual company stock price can go up or down in value very quickly. You deserve big rewards for taking that much risk. Is your company stock increasing in value faster than the market overall? If it is not, why are you accepting so much risk for just ordinary results or poor results? You could be invested in something with less risk and better returns.

DIVERSIFICATION

When you hold a great variety of investments, poor performance in one category can be offset by good performance in another. You can enjoy growth with less volatility. But your company stock can mess up your diversification. It is easy to ignore until one day you realize it has become an outsized part of your portfolio. You can become complacent if your stock is doing well. But no individual stock grows faster than the overall stock market forever. At some point you will want to move some of that equity into other investments. The urgency really depends on how exposed you are. If your company stock represents a small portion of your entire portfolio, say 5%, you don’t necessarily have to do anything right away. You can gamble with 5% of your life savings. On the other hand, if your stock position represents 10%, 20%, 30%, or more of your portfolio, that’s worrisome. That deserves deliberate planning so you are aware of the risks you are taking.

HAVE A PLAN

Whether you use a financial advisor, a robo-advisor, you manage your own asset allocation, or you use target date funds – you should understand your investment mix now and have a vision for where you want it to be in the future. Your company stock needs to be part of that plan. As you sell it, you can increase our stake in other investments to move closer to your ultimate plan. The important thing is to follow up the sale of your stock with an investment in something. Don’t leave your money sitting around in an account earning nothing.

TAXES

People get nervous about the tax they will trigger when selling stock that has appreciated. Yes, there will be taxes to plan for and pay, but don’t let that stop you from taking the appropriate actions with your stock. By not acting you are only delaying, not avoiding tax. Procrastination might mean you are missing out on much better investments. 

There are two big tax categories to be aware of. Short term capital gains (STCG) apply to stock that is held for less than a year. STCG are taxed at your ordinary income tax rate, which is 22% to 37% depending on your annual gross income. This is the same tax rate as if you received a cash bonus from work. If you are selling stock shortly after receiving it, you are locking in the profit as if it is a cash bonus. This could be a good idea if you don’t like the risk of holding stock or you have low confidence in the stock price going up.

Long term capital gains (LTCG) are taxed at a more favorable rate and apply to investments held more than a year. For those with adjusted gross income between $50k and about $500k, the LTCG tax rate is 15%. For very high earners the rate is 20%. If you have been collecting stock for many years, you probably have a lot of stock that is sitting in this LTCG category.

If your stock is currently worth less than you paid for it (the cost basis) then selling it will generate a short or long term capital loss (STCL/LTCL). This isn’t necessarily a terrible thing. The loss can be used to offset the short or long term gain of other investments in your portfolio. You can end up paying less tax overall. But most importantly, by selling you are reaping cash that can be invested in a better way. 

As you sell stock, do your tax planning and set aside cash to pay the taxes that will come due. You might even need to make estimated tax payments through the year. Selling a lot of stock, or even just exercising options without selling the stock, can trigger alternative minimum tax. Unloading your whole portfolio in one year could trigger extra tax. Planning is key. Having a multi-year plan can save you money.

ESPP

Qualified employee stock purchase programs (ESPP) give you a guaranteed discount on the stock’s fair market value. Deciding when to sell that stock depends on your goals. Selling immediately will lock in your profit and you will pay STCG tax. If you hold the stock longer, you can pay less tax, but the calculation is a bit tricky. I highly recommend you use an online ESPP tax calculator to understand how your position will be taxed if you sell at different points in time. In general, you will pay the lowest tax if you sell more than one year after your purchase date and more than two years after the offering period started. (Non-qualified ESPP has different tax rules.)

ISO

Incentive stock options give you the “option” of purchasing shares at a predetermined “strike price.” The first thing to be aware of is that options expire, usually 10 years from the date of the initial grant (not your vesting date). If you’ve been sitting on options a long time, you need to log into your brokerage and check the expiration date.

ISOs are more complex than ESPP because you need to make two decisions: when to exercise (buy shares) and when to sell shares. You can connect those two events through an “exercise and sell” directive, lock in guaranteed profit, and pay STCG. Alternatively, you can collect the shares and hold them, gambling on whether the stock price will go up. Your choice to sell or hold depends on your outlook for the company and your goals around how many shares you are willing to hold. Again, use an online ISO tax calculator to predict the tax treatment.

Caution: Even if you don’t sell the shares, your potential gain is included in the “alternative minimum tax” calculation on your tax return and can trigger additional tax.

RSU/PSU

Restricted Stock Units and Performance Stock Units are given as compensation or bonus and will have a time and/or performance-based criteria for vesting. When shares vest, the IRS treats them like earned income and they are subject to federal, state, and payroll taxes. That’s a lot of tax. Your company will usually sell some of the shares to prepay the tax so you don’t have a shocking tax bill later.

Listen carefully: You should sell RSUs and PSUs the day you receive them. Ask yourself: If my company gave me a cash bonus, would I immediately use it to buy company stock? If the answer is no, you should not be hanging onto your RSU/PSUs. They are fully taxed and equivalent to cash on the day you receive them. Selling them will not generate any additional tax burden.

For RSU or PSU shares you have already received and did not sell immediately, the LTCG clock has been ticking. Your brokerage report should show you if you have held them long enough to get LTCG treatment. Your tax gain or loss will be based on whatever price change has happened since the day you vested in the shares.

YOUR ACTION PLAN

In summary, your goal is to proactively manage your stock holdings as part of your overall financial plan through these steps:

1. Evaluate how much of your portfolio is made up of your company stock.
2. Think about your big goals with your portfolio and where you are headed? How much stock are you comfortable holding?
3. Once you have decided how many shares you want to sell, make a schedule to sell stock at some interval. There’s a lot to factor in. How much do you want to take in gains in one year? How confident are you that the stock price won’t fall? 
4. Take advantage of LTCG if you have stock you have held for a while.
5. Each time you sell, set aside money for taxes.
6. Finally, get your cash invested. This is the whole point, to transition to a diversified portfolio that supports your goals.

By actively managing your employee stock holdings, you can reduce risk and build a portfolio with healthy growth to meet your goals through the years.