.png)
As the year draws to a close, it’s important for employees with equity compensation to review their holdings in restricted stock awards (RSAs), restricted stock units (RSUs), and performance shares. Effective year-end planning can help optimize your financial position and minimize tax liabilities. This article presents key strategies to consider as part of your year-end financial planning for equity compensation.
Review Your Vesting Schedule and Tax Implications
If you’ve had RSAs or RSUs vest this year, you need to understand the tax implications. At vesting, you recognize ordinary income equal to the fair market value of the shares, which is reported on your W-2 and subject to withholding.
Strategy: Consider timing other income around your vesting events to avoid pushing yourself into a higher tax bracket. For example, if you have non-qualified stock options (NQSOs) that you plan to exercise, you might delay this until early next year, depending on your income projections and tax rates.
Address Potential Underwithholding
Companies typically withhold taxes on vested shares at a flat supplemental rate of 22%, which may be lower than your actual marginal tax rate (if supplemental wages are in excess of $1 million, the withholding rate is 37%). Additionally, state tax withholding might not be sufficient to cover the actual taxes owed.
Strategy: If you anticipate owing additional taxes, consider:
Paying estimated taxes
Asking your employer to withhold extra taxes from your regular paycheck
Selling some vested shares to cover the additional tax liability
Remember, the IRS treats withholding taxes as if they were paid evenly throughout the year, which can help avoid underpayment penalties.
Offset Vesting Income with Tax-Advantaged Contributions
When your RSAs, RSUs, or performance shares vest, you incur taxable income. However, one of the most effective ways to offset this income is by maximizing contributions to tax-advantaged accounts.
Maximize Retirement Account Contributions
401(k) or 403(b) Plans: If your employer offers a 401(k) or 403(b) plan, consider increasing your contributions up to the annual limit. For 2024, the maximum contribution is $23,000, with an additional $7,500 catch-up contribution allowed for those 50 and older.
Traditional IRA: If you’re eligible, contribute to a traditional IRA for you or your spouse. The contributions may be tax-deductible, depending on your income and whether you’re covered by an employer-sponsored retirement plan.
SEP IRA or Solo 401(k): If you or your spouse have self-employment income, consider setting up and contributing to a SEP IRA or Solo 401(k), which often have higher contribution limits than traditional IRAs.
Utilize Health Savings Accounts (HSAs)
If you’re enrolled in a high-deductible health plan (HDHP), contributing to an HSA can provide triple tax benefits:
Contributions are tax-deductible
Growth within the account is tax-free
Withdrawals for qualified medical expenses are tax-free
For 2024, the maximum HSA contribution is $3,850 for individuals and $7,750 for families, with an additional $1,000 catch-up contribution allowed for those 55 and older.
Contributions to IRAs and HSAs can be made up until the tax filing deadline for the year, which is typically April 15th of the following year.
Plan for the Medicare Surtax
High-income earners face an additional 0.9% Medicare tax on earned income (including equity comp) above certain thresholds ($200,000 for single filers, $250,000 for joint filers). Additionally, a 3.8% Medicare surtax applies to investment income for those in the same income range.
Strategy: If your income will trigger these surtaxes next year and you have vested shares you intend to sell soon, consider selling in the current year to avoid the additional 3.8% tax on any gains.
Manage Your Stock Price Fluctuations
If your company’s stock price has dropped significantly since your shares vested, you might consider tax-loss harvesting.
Strategy: Sell shares at a loss to offset capital gains from other investments. Be cautious and do not repurchase the stock within 30 days or the wash sale rules apply, which will nullify the loss as a tax deduction this year.
Conversely, if your stock price has risen substantially:
Check for any capital loss carry-forwards from previous years that could offset gains
Consider whether selling now at short-term capital gains rates makes sense given your overall financial picture and risk tolerance
Prepare for Upcoming Performance Share Payouts
If you have performance shares with a measurement period ending on December 31, confirm with your company when the actual vesting or share delivery will occur.
Strategy: Understanding the timing can help you plan for the income recognition and potential tax impact, which may fall in the current year or the next.
Explore Gifting Strategies
Gifting appreciated company stock can be an effective way to transfer wealth and potentially reduce your tax burden by avoiding capital gains tax on gifted shares.
Strategy:
Consider gifting appreciated shares to low-income family members who may benefit from the 0% long-term capital gains rate
Be aware of the annual gift tax exclusion ($18,000 per recipient in 2024, or $36,000 if split with a spouse)
Be cautious of the “kiddie tax” when gifting to children for educational expenses
Consider Charitable Donations of Company Stock
Donating appreciated company stock can be an effective tax strategy, often more advantageous than selling the stock and donating cash.
Strategy:
To deduct the full fair market value, you must have held the stock for more than a year after vesting, otherwise the deduction will be equal to the value at vesting
Consider “bunching” donations in a single year to exceed the standard deduction and itemize
Use a donor-advised fund if you’re not ready to select which charitable causes you plan to support
Ensure stock transfers are completed by December 31 for current-year tax deductions.
Conclusion
Year-end planning for equity compensation requires careful consideration of your overall financial situation, tax implications, and long-term goals. While these strategies can provide valuable insights, it’s important to remember that investment objectives should drive your decisions, not solely tax considerations.
Start your planning early and consider consulting with a financial advisor or tax professional, especially if your situation is complex. By taking a proactive approach to managing your restricted stock, RSUs, and performance shares, you can optimize your equity compensation and work towards growing your wealth and achieving financial goals more effectively.
Tad Jakes, CFP®, EA, ECA