How to Avoid Tax Surprises and Penalties
Planning ahead can help you manage the tax burden of RSUs and avoid unpleasant surprises. If your RSUs are vesting, then you should assume your employer’s default withholding won’t cover your liability. That leaves you with a few options:
- You may be able to work with your employer to increase your withholding, either on your RSU vesting specifically or within your salary withholdings overall to adjust for it. Often the withholding on RSU vest is locked at the 22% rate (37% for compensation above $1,000,000) mandatory from the IRS, but increasing your normal paycheck withholding to compensate can be a sound strategy.
- Alternatively, you could set aside the difference in cash and wait until tax day. Just make sure you're paying in enough to avoid underpayment penalties using the safe harbor amount from previous year (usually 110% last year's federal tax liability).
- If you anticipate a significant shortfall, consider making estimated tax payments.
Tax Return Errors
Your RSUs vest. You confirm the default withholding rate applies to you. And you eventually sell your shares and reap the rewards of your hard work. So, you’re in the clear, right?
Not quite.
Some taxpayers mistakenly assume that no further action is required because taxes were already withheld.
While the income is included in your W-2, the IRS will also receive a 1099-B from your brokerage or plan administrator when you sell your shares. This form discloses the total sales proceeds but may not include the cost basis — the FMV of the shares at the time of vesting, adjusted for any dividends reinvested (if applicable).
When this happens, the IRS assumes the entire amount is a taxable gain unless you manually calculate this on Schedule D using the actual cost basis instead of $0.
To illustrate this tax treatment discrepancy, let’s say you have 1,000 RSUs that vest at $50 per share. This means $50,000 (1,000 shares x $50) is reported as income on your W-2 and subject to ordinary income tax.
One year later, you sell those shares at $60 per share, resulting in gross proceeds of $60,000 (1,000 shares x $60). Your brokerage issues a 1099-B reporting these proceeds but doesn’t list a cost basis.
If you don’t report the $50,000 FMV as your cost basis on Schedule D (Capital Gains and Losses), the IRS assumes you owe capital gains taxes on the full $60,000, rather than the actual $10,000 gain ($60,000 - $50,000). As you can imagine, this can result in a massive tax loss.
How to Avoid Filing Errors
Improperly reporting RSUs on your tax return (or leaving them off entirely) can lead to unwanted notices from the IRS and potentially higher taxes than what you actually owe. To avoid this scenario, always confirm your tax return accurately captures your RSUs — including the correct cost basis, sale values, and any newly vested shares.
You should also consider working with a CPA or financial advisor well versed in equity compensation that can help run tax projections and confirm that everything is reporting correctly on tax forms and, most importantly, your tax returns. Tax professionals can help you double-check all relevant documents and reduce the odds of an amended return and make sure you don’t overpay in taxes.
Single Stock Concentration
RSUs are a clear sign that your employer values your contributions. But that doesn’t mean you have to return the favor by holding an outsized number of shares of your company’s stock.
Your financial livelihood is already tied to your employer through your paycheck, benefits, and professional growth. Holding too much company stock exposes you to risks like downturns, leadership changes, or economic turbulence. Even well-established companies can experience sudden setbacks — think of companies impacted by scandals, regulatory changes, or technological disruption.
There are many myths about managing RSUs effectively, and the most pervasive is that you should hold your RSU’s for as long as possible. If your goal in selling shares is to minimize capital gains while diversifying your portfolio or to raise cash to fund an approaching goal (resupplying your Emergency Fund, a down payment for a house, car purchase, etc.), selling your RSUs as they vest is likely the optimal strategy.
This approach should negate short-term capital gains taxes on your RSUs, as the sale price should be materially similar to the value of the shares upon vesting. More importantly, diversification can help balance your risk by spreading investments across various sectors and asset classes, reducing the impact of any single stock’s performance on your overall financial health.
How to Avoid Single Stock Concentration
As your RSUs vest, consider selling a portion of your shares immediately. This reduces your reliance on your employer’s stock and allows you to reinvest in assets that align with your financial goals.
If you believe in your company’s long-term potential and want to retain some shares, that’s understandable — just consider limiting your exposure.
Regardless, set a clear strategy for when and how to sell your shares. A financial advisor can help you integrate your stock compensation into your financial plan in a way that maximizes value, minimizes taxes, and may even be automatable to avoid insider trading rules considered blackout periods. (More on that below)
Wash Sale Rule Violation
If you’re looking to sell company stock to harvest losses or rebalance your portfolio, it’s important to understand the wash sale rule.
The wash sale rule prevents you from claiming a tax deduction on a loss if you repurchase substantially identical securities within 30 days before or after the sale. This applies to both direct and indirect stock purchases, such as through a spouse’s account or a retirement plan.
Let’s assume you sell 100 shares of your company stock on December 1 to harvest a loss before the tax year closes. If you repurchase shares (or have RSUs vest) before December 31, the loss could be disallowed for tax purposes. The trick is you may not consider an RSU vestiture as a purchase, but it can trigger the wash sale rule the same as a regular purchase can.
How to Stay Compliant With the Wash Sale Rule
It’s easy to overlook the wash sale rule, but violating it may negate your tax-saving efforts. Fortunately, it’s just as easy to stay compliant — before you make any sale decisions, be mindful of your RSUs and any other automated transactions (like through an employee stock purchase plan).
So long as purchases are outside of the 61-day window (30 days before, the day of sale, and 30 days after), you should avoid issues.
Insider Trading
When managing RSUs or other forms of equity compensation, it’s imperative to steer clear of insider trading — an illegal practice that could lead to severe penalties, including up to $5 million in fines and up to 20 years in prison.
Insider trading occurs when an individual, whether a current or former employee, buys or sells a company’s securities based on material, nonpublic information (MNPI). This includes any information that could significantly impact the company’s stock price, such as earnings announcements, mergers, or product launches.
For instance, if you hear whispers that your CEO is stepping down and decide to sell shares, that could be flagged as insider trading. The same holds true if you happen to learn that your company is about to be acquired and buy more shares before the announcement. And, as you might suspect, “tipping” such information to other people (friends, family, coworkers, etc.) also qualifies.
However, not all insider trading is nefarious or a deliberate scheme to turn quick profits. Employees often have inside knowledge of a company’s operations but may not realize that trading based on such knowledge constitutes insider trading. Even if unintentional, you could still be subject to insider trading penalties.
How to Avoid Accidental Insider Trading
To reduce the risk of insider trading violations:
- Know your trading window: Many companies enforce blackout periods around quarterly earnings announcements or major events. Only trade company stock during approved open trading windows — note that this applies to your personal brokerage accounts as well.
- Leverage a 10b5-1 plan: This is a prearranged trading plan that allows you to sell shares on a set schedule, which insulates you from trading based on MNPI.
- Consult your legal or compliance team: If you’re unsure about the legality of a trade, reach out to your company’s compliance department or legal counsel for guidance.
An Easy Way to Avoid RSU Mistakes: Work With an Advisor
No one intends to make mistakes, but they happen. Managing equity compensation is no different — except the consequences can be very costly. Making mistakes with RSUs and stock options can lead to surprise tax bills, missed vesting milestones, or concentration risk that undermines your broader financial goals.
Awareness is an excellent first step, but having a clear strategy is even better. A financial advisor can help you understand your vesting conditions, optimize tax planning, and integrate your RSUs into a comprehensive financial plan.
Schedule a consultation today to ensure your RSUs work for you, not against you.