When to Pay Taxes on Restricted Stock Awards

June 9, 2023
Restricted stock awards are typically taxed using their value on the vest date, but you can opt to use the value on the grant date instead. Here's what to consider before you perform a so-called Section 83(b) election.

The IRS typically treats restricted stock awards (RSAs) granted to employees as ordinary income, based on the shares' value when they vest. But recipients of relatively low-priced shares—such as founders or early employees—may want to consider a Section 83(b) election, which allows them to pay income tax upfront based on the value of shares on their grant dates rather than on their vest dates. (Gains at the time of sale would be taxed at a more favorable long-term capital gains rate of 0%, 15%, or 20%, depending on your income—plus a 3.8%
surtax for higher earners.)

"If you believe the share price will rise considerably between the grant and vest dates, an 83(b) election could reduce your overall tax liability," says Hayden Adams, CPA, CFP®, director of tax and wealth management at the Schwab Center for Financial Research. "However, if the share price declines during that period, this strategy could work against you."

Let's say you receive an RSA of 100,000 shares worth $0.50 each on the grant date, for a total value of $50,000. Assuming you're in the highest federal income tax bracket of 37%, an 83(b) election would trigger an $18,500 tax bill ($50,000 x 0.37).

If the shares are worth $5 when they vest one year later and you decide to sell them, your gains would be taxed at a rate of 23.8%—as long as you've held the shares at least a year and a day. You'd owe $107,100 ($450,000 x 0.238) on your earnings in addition to the $18,500 you paid with the 83(b) election for a total tax bill of $125,600.

Had you not performed the 83(b) election, you'd owe federal income taxes on the full value at the time of vesting, generating $185,000 in taxes ($500,000 x 0.37)—or $59,400 more than with the election.

So, how do you decide if an 83(b) election makes sense for your situation? Ask yourself:

  • Where is the stock headed? "If you feel the stock is undervalued relative to where it could be when the shares vest—before an expected IPO, for example—an 83(b) election could be a smart move," says Chris Kawashima, CFP®, a senior research analyst at the Schwab Center for Financial Research. "But if the price is relatively strong already, it may not be worth the risk."
  • Where are you headed? "If you make an 83(b) election but then leave your company before all the shares vest, you will have paid taxes on stock you'll never own," Chris cautions.

Be aware, too, that you have just 30 days from the RSA grant date to file an 83(b) election. There's no official tax form to complete, so you'll need to mail a letter to the IRS requesting the election, keep a copy for your records, and also send a duplicate to your employer. "A qualified tax advisor can help you think through the benefits and drawbacks of an 83(b) election, as well as ensure your request to the IRS is filed correctly," Hayden says.

What about RSUs?

Unlike RSAs, restricted stock units (RSUs) aren't eligible for an 83(b) election. That's because while RSAs constitute actual shares, RSUs are merely the promise of shares until they are vested and delivered, at which point they're taxed as ordinary income. If you're unsure which type of shares you've been granted, consult your company or tax advisor.

Unlike RSAs, restricted stock units (RSUs) aren't eligible for an 83(b) election. That's because while RSAs constitute actual shares, RSUs are merely the promise of shares until they are vested and delivered, at which point they're taxed as ordinary income. If you're unsure which type of shares you've been granted, consult your company or tax advisor.

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness, or reliability cannot be guaranteed.

Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.

This information does not constitute and is not intended to be a substitute for specific individualized tax, legal, or investment planning advice. Where specific advice is necessary or appropriate, Schwab recommends consultation with a qualified tax advisor, CPA, financial planner, or investment manager.

The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc.

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