Got questions about RSUs? You’ve come to the right place. In this article, we’ll break down the basics of RSUs, from explaining how this security type differs from share options to walking through hypothetical taxation scenarios.
What is an RSU?
A restricted stock unit (RSU) is an alternative to a share option, used by companies to compensate employees. Just as a bonus might be paid in cash on a quarterly basis, an RSU grant is paid in shares, on whichever basis it vests.
While share options offer employees the ability, or “option”, to buy shares at a fixed price in future, RSUs are granted as shares. However, you can’t take full ownership of shares granted as RSUs until you meet certain conditions. The vesting schedule and other conditions for an RSU grant are outlined in the RSU agreement that you receive when the RSUs are issued to you.
You don’t normally pay upfront to receive an RSU grant, but when you acquire the vested RSUs as shares, they are considered taxable income and treated as such.
Timing is key with RSUs: When you acquire the shares and when you sell them are important factors in determining the full value and tax implications of the RSUs.
The most common vesting conditions placed on RSUs are time-based and involve a vesting schedule, which means you earn full rights to the shares over time. Other vesting schedules may be based on certain milestones or achievements related to your performance as an individual or as a company.
Just like share options, RSU shares are not granted to you until they vest. Your RSU grant can have one or multiple vesting triggers.
If your RSUs have a single-trigger vesting schedule, you only need to satisfy one requirement, typically time-based.
Your equity grant vests over time, i.e. the grant vests monthly over four years, with a one-year cliff.
Your equity grant vests when a specific event occurs i.e. you hit an individual target or company milestone such as an acquisition.
RSUs can also be subject to double-trigger vesting. A common additional vesting condition for RSUs is a company liquidity event, such as an acquisition or initial public offering (IPO).
In this instance, both conditions must be satisfied for your shares to vest. This has its upsides: it may allow you to delay tax obligations until your shares are liquid enough to sell. That way, you can offset your out-of-pocket payments by selling some or all of your shares at the point of acquisition.
Time-based and event-based
Your equity grant vests when both time-based and event-based conditions are met, i.e. you’ve passed a one-year cliff and your company is acquired.
What happens to my RSUs upon termination?
In the event that you’re let go from a company or decide to leave, your vested and unvested RSUs are treated differently.
What happens to your vested RSUs after termination depends on the policy laid out by your employer.
If your grant has a single-trigger vesting schedule, you’ll most likely get to keep your vested RSU shares. However, if you have a double-trigger vesting schedule with a so-called “must be present to win” condition, it’s unlikely you’ll keep your shares. That’s because you’ll need to work at the company when the event (for example, an IPO) that triggers vesting takes place.
Regardless of liquidation conditions, any RSUs that are unvested are cancelled when you are let go or leave voluntarily. In case of double-trigger vesting all your RSUs would technically be unvested, as the liquidation event is a prerequisite for vesting.
If you’ve been granted RSUs, your grant agreement should explain what will happen to your RSUs in the event that you leave the company – including if and when double-trigger RSUs will expire.
This article is based on general taxation principles, and your specific taxation will depend on jurisdiction and personal financial situation.
The main thing to know about RSUs and taxes is that you pay ordinary income tax when your RSUs are converted into shares. Some companies choose to convert your RSUs into shares at the point of each vesting event, but it’s more common for companies to convert RSUs on a regular basis, such as annually.
Let’s walk through an example. Say you’re granted RSUs when the Fair Market Value (FMV) is £10 per share. Since you didn’t actually receive any shares when the RSU was granted, you’re not responsible for paying taxes. The taxable amount is £0 on the grant date.
Instead, you’ll pay ordinary income tax on the full FMV when the RSUs are converted into shares. Let’s imagine the FMV at that point is £15. If you decide to sell your shares later at £18 FMV, you’ll pay capital gains tax on the difference between the FMV at vesting and the FMV at the time of sale, which in this case would be £3.
Our first example looked at single-trigger RSUs. Seeing as RSUs often have multiple vesting conditions, let’s review how a liquidation condition would affect RSU taxes.
Using the same base figures for the RSUs (granted at £10 FMV, sold at £18), let’s assume you decide to sell your RSUs as soon as they’re fully vested. Since there’s a double-trigger vesting schedule, your shares are only fully vested when both the time-based vesting and event-based vesting conditions are satisfied. Selling them at that point, you’ll pay ordinary income tax on the entire value of the RSU (£18 per share).
DISCLOSURE: This communication is on behalf of Capdesk ApS ("Capdesk"). This communication is not to be construed as legal, financial, accounting or tax advice and is for informational purposes only. This communication is not intended as a recommendation, offer or solicitation for the purchase or sale of any security. Carta does not assume any liability for reliance on the information provided herein.
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