Equity compensation can provide loyalty and employee benefits without any of the upfront costs of increasing base salaries or contributing to retirement plans. This has led equity compensation to become a more appealing option to many employers. Although it is a great option for employers, it makes it a little trickier on your end to get the most value out of it. In this article, we will dive deep and show you how to incorporate these options into your overall financial plan.
Many of our clients do not know how to utilize, let alone maximize, equity comp to its fullest extent. Our team at Wellstone Wealth Management has experience with equity compensation models and can help guide you through the process. Consider these 5 tips on how to get started.
Where Does Equity Comp Fit In?
In practice, we have found there are two main ways you can take advantage of equity compensation: cash flow planning and investment planning. Both options have several specific actions you can take to better utilize your equity benefits.
Cash Flow Planning
Cash flow planning involves budgeting and tracking income and expenses in an effort to better allocate your resources toward savings and other financial goals. For those who receive equity compensation, cash flow planning is key to incorporating your benefits into your overall financial plan.
Fund Cash Flow Shortages
Over the years, total compensation packages have skewed more and more to the equity side and less to high base salaries. This can create problems for many clients because as salaries remain the same, housing costs, child care costs, and the cost of daily goods and services continue to rise, leaving many clients to rely on their restricted stock vesting and/or bonuses to fill in the gaps.
If this sounds like you, consider creating a budget to help identify the monthly or annual shortage between your base salary and your non-discretionary expenses. Once this has been done, you can sell the number of company shares required to cover your shortfall.
It is important to map this out prior to when you actually need the funds, so you can be sure your actions are tax-efficient. Accurately valuing your stock options or RSUs is also crucial. The last thing you want to do is sell, thinking you will receive a certain amount, only to learn that your net earnings are much lower. This can be especially harmful if the purpose of the sale is to fund everyday living expenses.
Fund Future Goals
Alternatively, if you do not need to sell the shares to fund your monthly cash flow, you can instead allocate them toward future goals, like large one-time purchases, home renovations, vacations, retirement savings, or education funding. It can be difficult to know which goal should take priority. If you would like more information on how to decide which goals to fund, read this article about planning for multiple goals.
Once you have decided on a goal, it can be funded by selling the underlying stocks associated with employee stock purchase plans (ESPPs), employee stock options (ESOs), or vested restricted stock units (RSUs).
All these options should be well planned out since holding the stock for at least a year before selling will result in favorable tax treatment. It is crucial to incorporate equity compensation into your financial plan sooner rather than later. The tax consequences for these plans are usually years in the making, so you will want to plan far in advance to reduce your liability and maximize your benefits.
Investment Planning
While the cash flow planning strategy focuses on selling stock for funds that can be invested, the investment planning strategy focuses on staying invested in your company stock and how that can be used to maximize your future financial goals.
Evaluate Your Company’s Performance
The first step you should take when incorporating equity compensation into your financial plan is to evaluate your company’s stock objectively. How is it performing relative to the entire industry’s performance? How is the industry performing relative to the market?
It is easy to get swept up in rooting for the home team; after all, they are the ones who pay you. But would you buy your company’s stock if you did not work there? If the answer is no, then you probably do not want to hold on to the stock for much longer than you have to.
Buy and Hold
If you evaluated your company’s performance and decided yes, you would buy the stock even if you did not work there, consider using a buy-and-hold strategy. Not only will this give you the potential for growth, it will also help you minimize tax liability by allowing any gains to be considered long-term. Keep in mind that this strategy should be periodically reevaluated to ensure it continues to make sense in your overall plan. It should not be a set-it-and-forget-it mentality, especially if it leads to an undiversified investment portfolio.
Consider Diversification
Speaking of diversification, it is important to assess your overall risk level when you own large amounts of company stock. If it makes up more than 10% of your total investable assets, you are in a highly concentrated stock position. This is great if your company stock does nothing but grow for the next 20+ years, but the reality is that most stocks have dramatic ups and downs that can wreak havoc on a financial plan.
In order to mitigate the downside risk associated with concentrated stock positions, there are a number of options to diversify your portfolio you can consider. Consult your financial professional for the specific options available to you.
Learn More About Your Equity Compensation Options
If equity compensation makes up a large part of your employee benefit plan, reach out to us to learn more about your options. We at Wellstone Wealth Management work to ensure our clients have a clear understanding of their equity compensation and how it fits into their broader financial picture. Find out how we can help you start planning today. Schedule a complimentary introductory meeting by contacting us at 503-594-1210 or info@wellstonewealth.com.
About Greg
Greg Allen is a CERTIFIED FINANCIAL PLANNER™ professional, Life-Centered Financial Planner, Managing Member, and second-generation owner of Wellstone Wealth Management, a life-centered financial planning firm that takes a unique Return on Life (ROL) approach to help their clients live the best life possible with the money they have. With over 20 years of experience, Greg holds fast to his mission of helping clients plan their finances around their lives, instead of the other way around, resulting in fulfillment, confidence, and a meaningful life. Greg also provides a caring, trusted long-term relationship and life-centered financial behavioral counseling. He specializes in working with people who have recently retired or are close to it (typically five years or less) and relates well to corporate executives and upper-management couples who often have complicated financial pictures and need help maximizing their wealth, reducing their taxes, and preparing for retirement so they can maintain their ideal lifestyle.
When he is not helping his clients find meaning and purpose, you can find Greg spending time with his friends and family, especially his wife, Sandy, children, and grandchildren. As a native Oregonian, Greg loves the outdoors, visiting the Oregon Coast, and retreating to their family cabin in the mountains. He enjoys staying involved with his church, reading, watching sports, and anything to do with exercise and wellness. To learn more about Greg, connect with him on LinkedIn.
Information provided herein is provided by Wellstone Wealth Management, LLC. This information is for general informational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Information was compiled from third-party sources believed to be reliable and accurate but cannot be guaranteed. Investment advisory services are offered through Oswego Wealth Advisors, Inc., an SEC Registered Investment Advisor. Neither Wellstone Wealth Management, LLC nor Oswego Wealth Advisors, Inc render any legal, accounting, or tax advice. All investments involve risk, are not guaranteed, and may lose value. We recommend that all investors consult with a qualified adviser to assess your personal situation before implementing any strategy.