These are challenging times for everyone. Nearly every stock is low right now and layoffs are commonplace. What makes it worse is, that it’s possible we aren’t done with the worse of it all.
For reasons beyond your control, you may find yourself in a position where you suddenly need to come up with cash to meet living expenses or other incredibly important and expensive demands. Your equity compensation could be where you go to get access to those funds.
When making stock sales, be careful to avoid mistakes. Before you sell your company shares, consider the following checklist and sell your shares thoughtfully considering all tax laws and rules the government has put in place.
1. Pay Attention to Capital Gains and Losses or You Could Pay More Taxes Than Necessary
Assuming your shares of company stock aren’t in a retirement account when you sell stock for most than you paid for it, you’ll have to pay taxes on that gain. This is called a capital gain (because you gained capital by selling something for more capital than you paid for it). Conversely, you may also lose money by selling for a capital loss.
If you exercise an Incentive Stock Option, Non-Qualified Stock Options, or have RSUs or RSAs vest and you hold the stock for a whole year, any gain you’ll get on holding those shares will be considered a long-term capital gain which is typically a much lower tax rate than you’d pay on your income.
Conversely, shares held for less than one year are taxed at short-term capital gains rates, similar to the tax rate you’ll pay on your salary working for your employer.
Typically, most people receive shares every quarter or every year based on their performance from their employer in the form of Restricted Stock Awards (RSAs). When these vest, you’ll pay taxes on how much vested as if you earned it, and, for tax purposes, the vestment amount is considered your “purchase price”.
When you decide you need to make a withdrawal from this stock for whatever reason, it’s important to first sell the stock that generates a capital loss because you can use that loss to offset taxes on the future stock you sell for a gain. For example, if you sold some stock with a $1,000 gain and $1,000 loss simultaneously, you’d owe no taxes because the two canceled one another out.
In addition, if you have more losses than gains on the sale of stock in any year, you can write off up to $3,000 in losses from your income which could lower your tax bill by as much as $1,500 depending on how much you earn per year.
The remainder of your loss can be written off of future gains indefinitely which could help you out down the road.
2. Choose Wisely Young Skywalker (or you’ll pay a lot more taxes)
When you hold shares that you’ve received at regular intervals throughout time such as RSUs vesting, twice yearly ESPP purchases or or or… you’ll want to identify which “lot” is being sold. If you don’t designate which lot, the IRS will assume the default which is First-In-First-Out which oftentimes results in the largest tax bill (because the market trends upward).
The good news? You can choose which you want to sell. If markets have been dropping, you can choose to sell the ones with the highest purchase price, first thereby generating a loss. Make sure you get clarification on how to indicate specific lots to sell through your brokerage firm’s website.
3. Don’t Screw Up and Commit a Wash Sale Violation
Wash Sales occur when you sell stock for a loss and repurchase it within 30 days or less of the sale (before or after). If you do this, not only do you not get to take the loss but the loss and the holding period are transferred to your new shares.
Similar treatment applies to an option exercise, ESPP purchase, or dividend reinvestment plan on company stock. Those are all considered purchases.
4. If you lost your job, don’t neglect to read your company’s post-termination stock option exercise rules
You may plan on exercising your stock options eventually and then sell the stock immediately afterward for whatever reason. If you wait too long, you may miss out on more than you realize. Vesting usually stops on all types of stock compensation when you lose your job. Typically, in this case, you must QUICKLY exercise any outstanding vested stock options within 90 days or LESS of your termination. If you fail to exercise In-The-Money Stock options in time, you’ll forfeit their value. This mistake could be literally life-changing for the worse.
5. Don’t Be like Martha Stewart. Avoid Insider Trading (or else)
Sometimes trading stocks can actually get you into a huge amount of trouble (jail time, fines, etc.). If you buy or sell shares of your company’s stock while you know material nonpublic information (MNPI), you are committing insider trading, which is illegal. Material nonpublic information refers to company secrets that, when made public, would move the company’s stock price up or down. This prohibition against trading on confidential inside information applies even if you are no longer employed by the company.
The type of information that could be considered MNPI is not always clear. However, you can use your common sense. MNPI is any confidential company information that, once publicly known, could affect your company’s stock price in a positive or negative way. This might be, your CEO has cancer, your company is considering a merger, layoffs are imminent or or or.
The simplest way to ensure you don’t trade on insider information is to trade ONLY when you have a life event and a NEED to do so OR your financial advisor recommends it based on the needs of your financial plan (not what you expect the stock to do).
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