Equity can add complexity to your financial situation. You don’t want to be caught off guard by a surprise tax bill or a financial windfall when there is something you can do to prepare for it.
Preparing in advance gives you more opportunities to leverage your equity compensation as part of your larger wealth-building strategy.
Here are four big things to know about your equity before Dec 31.
#1: Review Your Current and Future Vesting Schedules
Understanding your vesting schedule should be a priority for anyone with equity compensation. When your equity fully vests, you have the green light to do something with your options, like purchasing, selling, holding, or acquiring— depending on the type of equity.
If you aren’t keeping a close eye on your options, you may be surprised by the number of shares that vested this year or will vest in the new year. It’s easy to forget what’s coming down the line, especially if your options take years to vest.
Vesting schedules mean different things for different types of compensation. To get up to speed, review all equity types you may have, including:
- Restricted stock units (RSUs)
- Incentive stock options (ISOs)
- Non-qualified stock options (NSOs)
- Employee stock purchase plans (ESPPs)
Before finalizing an equity comp strategy, you must know what type of equity has vested this year and how many options you’ve exercised.
#2: See Where You Fall on The AMT Scale
If you have a significant amount of equity, namely ISOs, you may need to look closely at alternative minimum tax (AMT) liabilities.
AMT is a different tax system used to calculate tax liability.
This tax system was designed to ensure high-net-worth taxpayers pay enough by limiting eligible exemptions and using a different rate structure. Those subject to AMT must calculate their ordinary income tax and AMT liability. Then, they have to pay the higher of the two.
Generally speaking, anyone with income under $540,000 (or $1,080,000 filing jointly) isn’t subject to AMT liabilities. Unlike ordinary income tax brackets, there are two flat AMT rates. For the 2022 tax year, they are:
- $0 – $206,100: 26%
- Over $206,100: 28%
AMT isn’t necessarily bad, but it is something high earners should be aware of. Even if your salary doesn’t make you a contender, it’s possible having a lot of equity compensation could.
Work with your financial advisor and tax professional to determine if you’ve exercised enough stock to push you into AMT territory or if you have any AMT credits you can use to offset what you owe at tax time.
#3: Evaluate Your Buy, Hold, and Sell Strategy
If you have to exercise options such as ISOs or NSOs, do you know how many shares it makes sense to buy? And, more importantly, do you have the cash flow to support this decision?
You might also have RSUs. If that’s the case, how much should you hold or sell? Does it make sense to sell just enough to cover the tax bill and keep the rest? Or should you sell them all to support a specific goal?
Consider if there are any securities you’d like to hang on to or what type of sell strategy makes the most sense. With the market in a downturn, it could make sense to take advantage of tax-loss harvesting.
You also don’t want to forget about holding requirements for favorable capital gains treatment. Review the type of equity you have and how long you have to hold it to be eligible for better tax rates.
There are many considerations when strategizing your buy, hold, and sell strategies. It may feel overwhelming but talk to your financial professional about your options. They can help build a tax-minded plan based on your long-term goals.
#4: Ensure You Don’t Have a Concentrated Position
You know the old adage, “Don’t put all your eggs in one basket.”
But consider this: If you tie your income and investments primarily to one company, what happens if that business goes under? For employees with equity compensation, it’s a double whammy: loss of income and stocks.
Keeping too much wealth strapped to your company’s stock can lead you to take on more risk than you’re comfortable with. To remedy this, consider how much of your net worth is tangled into company stock and what you can do to intentionally diversify as the new year approaches.
Bonus: Build a Coordinated Equity Strategy
It seldom pays to make last-minute decisions about your equity compensation. The year is almost over; tax time will be here before you know it. There are things you can do during the last few weeks of 2022 to help set yourself up for success in 2023.
Set goals for your equity and determine how these decisions will support the rest of your financial plan.
We understand that equity compensation is complicated, but it’s possible to optimize your options to work toward your greater goals. Don’t hesitate to reach out to our team as 2022 wraps up. We’re happy to help you identify those goals and address any questions you may have about your equity.