My Company Is Going Public, Now What: What To Do With your RSUs

Welcome back for part 3 of our pre-IPO crash course for tech professionals. If you’ve made it this far, you have likely gained a ton of new valuable information about the pre-IPO stock world and tips to handle pre-IPO ISOs....

Welcome back for part 3 of our pre-IPO crash course for tech professionals. If you’ve made it this far, you have likely gained a ton of new valuable information about the pre-IPO stock world and tips to handle pre-IPO ISOs. Believe it or not, there is plenty more to discuss.

In our last post, we took a deep dive into pre-IPO incentive stock options (ISOs). This time around, we are going to introduce you to restricted stock units (RSUs) and provide you with the insights and tools needed to manage them effectively.

Glossary of Terms

While there are many similarities between ISOs and RSUs, there are a few important distinctions. With that said, we have an updated list of key terms to aid you in understanding the contents of this post.

  • Restricted Stock Units
    • Simply put, RSUs are a form of compensation issued by an employer to an employee in the form of company shares. Unlike ISOs, you do not have to exercise (purchase) these types of stock options. RSUs are granted to you with a graduated vesting schedule.
  • Vesting Schedule
    • The time when your stock options become available for you to sell them. You do not actually own anything until the vesting date. A common vesting schedule might look like this:
      • Initial stock grant of 200 shares takes place on 6/1 of the current year
      • On the initial grant date, 50 shares are immediately vested (on 6/1)
      • The remaining 150 shares are vested over a 3 year period (50 shares per year on 6/1 of every year)
  • Lock-up Period
    • A window of time where investors are unable to sell shares of a certain investment. Most companies issue a lock-up period right after an initial public offering to avoid the shares flooding the market and ultimately depreciating the share’s value.

RSUs + Private Companies

As you may have noticed so far, RSUs are not quite as complex as ISOs. Unfortunately, there are still some additional considerations for employees of pre-IPO private companies.

Double Trigger RSUs

Double trigger RSUs refer to stock options that are not vested (or taxed) until you meet two criteria:

  • The first criteria (from our vesting schedule example above) is for your RSU grants to vest (become available for you to sell). For employees of companies that are already public, this is fairly straightforward.
  • The second criteria is for your company to experience a liquidity event. This most commonly happens in the form of an IPO (a private company going public).

When Will Your RSUs Fully Vest After IPO?

In all likelihood, your RSUs will not vest until after the IPO. Every company is different and you are going to want to get crystal clear on when your shares vest and become available to you. Is it after the lock-up period? 6 months? A year?

Knowing when your RSUs fully vest gives you more information about your stake in the company and your tax responsibilities. As we will discuss momentarily, your RSUs are fully taxable on the vesting date. Why does that matter? Let’s explore a cautionary tale regarding Uber’s IPO.

The Uber Example

For Uber, their stock was fully vested on the IPO date. On that date, employees with those RSUs were taxed at ordinary income tax rates (number of shares X market value on the IPO date = taxable income).

Even though the stock was vested, there was a lock-up period restricting the sale of the stock. The lock-up period extended past the IPO date. When the lock-up period ended, the stock price of Uber had dropped significantly.

As an example, let’s assume that as an Uber employee you had 1,000 shares of stock that vested on the IPO date at $45/share for a total value of $45,000. You would have owed ordinary income taxes on the $45,000. After the lock-up period, Uber’s stock is trading at $30/share and your total value has dropped to $30,000. You have effectively paid tax on a value that is $15,000 more than it is worth today!

How Will Your RSUs Be Taxed?

There are two dates when your RSUs become taxable:

  • Vest Date: As we discussed in the Uber example, RSUs are taxed at ordinary income tax rates on the day they vest. Simply take the number of shares and multiply it by the market value of your company stock on the vesting date. That is the value in which you will pay taxes. Think about this like a bonus you would typically receive as part of your employment and performance.
  • Sale Date: You will also owe taxes on the day you sell your RSUs (if you sell for a profit). Let’s assume your RSUs were worth $10,000 on the vesting date and you sell them at some point in the future for $15,000. You will owe taxes on the $5,000 gain. If you held the shares for at least 1 year, you will be taxed at long-term capital gains rates. For shares held less than 1 year, short-term capital gains rates apply (equivalent to your ordinary income tax rates).

On the vesting date, your employer will withhold taxes automatically. This often comes in the form of selling off shares to cover the tax burden. Be sure to check your withholding rate. The IRS only requires that companies withhold 22% (which could be much lower for those in higher income tax brackets).

Creating a tax plan for your RSUs will be essential to maximizing their value. 

Prep for the IPO

As a tech professional employed by a pre-IPO company, you need to have a plan in place for your RSUs. Lets review:

  • Understand how many RSUs you have.
  • Learn about the vesting schedule. When are you able to sell your shares?
  • Ask about the lock-up period. Are you able to sell your shares when they vest or do you have to wait?
  • Think about your tax burden. Once vested, will you be withholding enough in taxes so that you do not owe more during tax season?
  • Evaluate your investment. How much of your net worth is tied up in your company stock? What is your plan for selling or holding your RSUs?

We hope you are getting a firm grasp on stock option considerations for pre-IPO employees. For additional information on RSUs, check out our post on the 5 Biggest Mistakes Tech Employees Make With Their Restricted Stock Units.

If you still feel overwhelmed or would like some help integrating your stock options into your overall financial plan, schedule a free strategy session with our team. We have expansive and comprehensive knowledge of employee stock compensation and would love an opportunity to show you how you could benefit from working with Woven Capital.

Stay tuned next time for our final piece about how to make the most of your options after selling!