This post is part two of ‘How Much Company Stock Should I Hold?’ In this article, we dive deeper into two areas:
- If you hold company stock, what form of equity compensation is the best to own, and
- How to maintain your desired allocation over time
What Type of Company Stock Should I Hold?
Let’s assume that you wish to maintain a position in your company stock—either because you want to participate in the upside or your employment agreement requires you to do so.
Most technology professionals have various types of equity compensation, and the ability to buy shares in numerous accounts, which means it’s crucial to decide on the kind of stock to hold.
So, what form of company stock is the best to hold?
Stock options are the first place you should look. They often vest over a period of time (meaning you couldn’t sell them now anyway), provide leverage or require less capital to participate in the upside of your company, and, in the case of ISOs (Incentive Stock Options), potentially provide favorable tax treatment.
Because the leverage point isn’t always intuitive, let’s provide an example of holding 1,000 shares in stock options vs. 300 shares of RSUs (often options are granted at 3-4x the rate of shares of RSUs).
|Value @ $20 per share||$6,000||$12,500|
|Value @ $5 per share||$1,500||$0|
As you can see, the options allow you to participate in the upside to a great degree, but if the stock falls below the strike price, the option grants expire worthless.
The leverage works both ways.
ESPP shares are another great way to participate in the growth of your company—with a floor on the downside (via the discount and lookback periods). Additionally, if held for two years from the grant date, they potentially have favorable tax treatment. If trying to build up a stake in your company, this might be the next place to hold shares. However, we typically recommend taking the free money (via the discount) and quick-selling your shares. (See ‘Your Biggest Advantage in Employee Stock Purchase Plans’ for more.)
RSUs typically have a vesting schedule, but the tax treatment of RSUs is no different from if you were to receive a cash bonus (on the vesting date) and then use that cash to buy your company’s stock.
Because there is no inherent advantage of these shares (once they vest, they are like any other shares), they are next in line of what to hold.
Unless you have shares with a low taxable basis and wish to hold them for potential charitable giving for other tax planning strategies, it typically doesn’t make sense to buy/hold your company stock in a taxable brokerage account.
Unless you are significantly underweight your desired holding in your company’s stock, use your Option, ESPP, and RSUs plans first.
More so in the past, but occasionally today, employees will buy company stock in their 401(k). With no tax barriers to selling in this account and typically good options to diversify, this is the last place we recommend holding company stock.
Here is a quick summary of the key features of the various options
|Options||Income (or capital gains for ISO’s)||Yes||Yes|
|RSUs||Income, then capital gains||Yes||No|
|ESPP||Income, then capital gains||No||No|
|Taxable Account||Capital gains||No||No|
How should I maintain my target allocation over time?
Once we’ve determined which types of equity compensation to hold, our next question is how to maintain a target allocation over time.
Here are three things to consider:
- Stop the bleeding – If you want to reduce your allocation, the first thing to do is stop buying in your 401(k), taxable brokerage accounts, or any other account without a built-in advantage to the equity. *Also, stop purchasing other stocks of other companies in the same industry as that doesn’t help much in terms of diversification.
- Sell what you need – The next step is to sell shares to get to your desired allocation. Put in place a plan to sell that considers taxes and the preferred accounts outlined above.
- Maintain – Once you’ve reached your desired allocation, develop a plan to monitor your allocation, stay diversified over time, and rebalance when needed. Maybe that’s as simple as a calendar reminder! But you should consider your company’s share price. If your company’s share price skyrockets (Yay!), your allocation will increase with the share price—making it a good time to rebalance.
As always, if we can be of any help or if you would like to discuss your company stock or equity compensation strategy, you can get in touch here.