A company can choose to reward its employees in various ways for their performance and loyalty. Incentives act as a morale booster, helping employees achieve greater determination towards their job. While some businesses offer cash rewards, others may offer up company stocks to a well-deserving employee. Restricted stock units or RSUs are one of the most popular ways for a business to incentivise performance.
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What are Restricted Stock Units (RSU)?
A restricted stock unit is a form of compensation for employees, where the employing company presents one or more of its stocks to the person in question. The beneficiary is free to sell this stock whenever he/she wants if the same is not within its vesting period.
Vesting period refers to a predetermined amount of time until when restricted share units cannot be sold. Companies tend to vest such stocks to ensure timely benefit only when certain parameters are satisfied. For example, a vesting period for RSUs can end after the concerned employee surpasses performance milestones. Similarly, a vesting period can also end after an employee remains with his/her particular employer for a specified period.
Whatever the conditions, unless the vesting schedule ends, beneficiaries of restricted stock units cannot leverage them to earn a profit.
What are the Restrictions on RSUs?
RSU restricted stock units can have various types of restrictions, which can prevent their vesting period from ending. Here is a look at the different kinds of restrictions on these assets –
- Time-based restrictions – Often, employees are rewarded with RSUs for their loyalty to the company. Thus, time-based restrictions unlock if a particular employee decides to retain his/her position at the company for the predetermined period.
- Based on milestones – Besides the time-bound restrictions, some restricted stock units are locked behind a milestone, which the beneficiary must achieve. Upon achieving this goal, the vesting period ends on the RSU. For example, a sales coordinator can unlock an RSU to his/her name by achieving a certain sales figure in a year.
- Time and milestone-based – In some cases, both time and milestone restrictions are enforced on restricted stock units. To be able to sell such an asset, the beneficiary must surpass the designated milestone and time limit set by his/her employing company.
Owning an RSU is similar to owning a portion of the company where you work, albeit only a minuscule part. However, to acquire RSUs in usable form, you must remove the various restrictions in place.
What to Do with RSUs?
After vesting is complete, individuals can choose to sell some or all of their stocks, pocketing a substantial gain. However, what one can do and what he/she should do are two different things altogether. Selling all of the accumulated stocks is advisable for some, especially if the stock prices are known to fluctuate frequently.
Likewise, one must consider that holding such stocks is similar to buying them on that particular day. If stock prices are already high, holding may be worthless, as the prices may not appreciate continuously. Regardless of the decision, an employee stands to earn a hefty profit by selling restricted stock units.
Taxation on Restricted Stock Units
The table below shows an RSU beneficiary’s tax liabilities, as per the different situations –
|RSU after vesting||Pay income tax after adding such shares to taxable income.|
|Acquiring RSU||No tax liability.|
|Selling RSUs within 2 years of acquisition||Sale value added to income tax amount and taxed as per applicable slab.|
|Selling RSUs later than 2 years after acquisition||Taxes applicable as per long-term capital gain norms, along with an indexation facility.|
Advantages of RSUs
RSUs offer several benefits to a company’s employer and employees. Listed below are some of the benefits of restricted stock units you need to consider –
- Encourages an employee to remain as part of an organisation for a prolonged period.
- Boosts morale and pushes them to perform to the best of their abilities.
- Individuals who hold on to their RSUs until they receive the full allocation can acquire the capital gain minus any deductions for income tax liabilities. The only condition here is that the company’s stock value should have risen at that time.
- Since restricted share units are not real stocks, companies do not need to expend significant sums to record and track them.
Disadvantages of RSUs
Such options also include certain flaws. Listed below are some of the limitations of restricted stock units –
- No dividend payment since they are not real shares of the company.
- If an employee decides to leave midway through vesting schedule, he/she will forfeit the remaining shares. For example, if Ravi was slated to receive 2000 RSUs over a four-year schedule, but he decides to leave the company after 3 years, he will have forfeited 500 shares.
Additionally, all restricted stock units remain unusable if particular conditions are not met. Thus, employees cannot rely on these instruments for financial assistance during emergencies.