How Are RSUs Taxed When Sold? A Breakdown of Key Factors
Understand the tax implications of selling RSUs, including income taxes, cost basis, and reporting requirements.
Restricted Stock Units (RSUs) have become a popular form of employee compensation, providing recipients with company shares upon vesting. Understanding the tax implications when these RSUs are sold is essential for maximizing financial benefits and avoiding unexpected liabilities.
Ordinary Income Taxes
When RSUs vest, they are treated as taxable income. The fair market value of the shares at vesting is considered compensation, subject to federal income tax, Social Security, and Medicare taxes. For instance, if RSUs vest when the stock price is $50 per share and 1,000 shares are received, $50,000 is added to the taxable income for that year.
The timing of vesting can influence tax planning. Employees might defer other income or increase deductions in the vesting year to manage the tax impact. Employers typically withhold taxes at a flat rate of 22% for supplemental wages, which may not cover the full liability if the employee is in a higher tax bracket. This shortfall can lead to a surprise tax bill, making proactive planning essential.
Cost Basis
The cost basis of RSUs is determined at vesting, reflecting the fair market value of the shares. For example, if an employee’s RSUs vest at $60 per share and they receive 500 shares, the cost basis is $30,000. This value is critical for calculating capital gains or losses when the shares are sold.
When selling vested shares, the difference between the sale price and the cost basis determines the capital gain or loss. Selling above the cost basis results in a gain, while selling below it results in a loss. Keeping accurate records of the vesting price ensures proper reporting.
Short-Term vs. Long-Term Gains
The tax rate on RSU share sales depends on the holding period after vesting. Shares sold within a year are subject to short-term capital gains tax, which matches ordinary income tax rates. Shares held for more than a year qualify for long-term capital gains tax rates, which are generally lower, with a maximum rate of 20% in 2024, depending on income.
Deciding when to sell vested shares can significantly impact taxes. Selling immediately upon vesting results in short-term gains, potentially increasing the tax burden. Holding shares for over a year to qualify for lower long-term rates can lead to savings but must be balanced against market conditions and personal financial goals.
Sell-to-Cover Arrangements
Sell-to-cover arrangements allow employees to sell a portion of their vested shares to cover taxes due at vesting. For example, if an employee receives 1,000 shares and the tax liability equals the value of 300 shares, selling those 300 shares covers the taxes, leaving 700 shares for the employee to retain.
This approach is particularly useful for those without sufficient liquidity to pay taxes upfront. It ensures tax obligations are met without out-of-pocket expenses, while allowing employees to benefit from potential future stock appreciation.
Reporting on Returns
Properly reporting RSU share sales on tax returns is essential. Sales are reported on IRS Form 8949 and Schedule D, which track capital gains and losses. The cost basis must be accurately reported to avoid double taxation.
Brokerage firms provide a 1099-B form summarizing RSU sales, but the listed cost basis may not always reflect the fair market value at vesting, which is the correct basis for RSUs. For instance, if the 1099-B lists a cost basis of $0 but the shares vested at $70 per share, the taxpayer must adjust the basis to avoid overpaying taxes. This adjustment is reported in column (g) of Form 8949.
It’s also important to reconcile the income reported on your W-2 with the RSU sale. The fair market value at vesting is already included in W-2 wages, so only the gain or loss relative to the vesting price should be taxed. For example, if 500 shares vested at $80 per share, $40,000 is already part of W-2 income. Selling those shares requires taxing only the gain or loss above the $80 cost basis. Accurate documentation, including vesting schedules and brokerage statements, is crucial for minimizing tax liabilities.