Taxes are a fact of life.
I talk to a lot of people who are trying to find the super-secret way that people with money avoid paying taxes. I’m here to tell you – it doesn’t exist. People offering you such strategies are not telling you something. Either that you’ll have to pay even more taxes further into the future, or you must give away enough of your money so that you would have been better off just paying the tax up front.
Now, that’s not to say you shouldn’t pay attention – you should.
However, we just need to realize that what we can do to lower our taxes only happens in small doses and almost always comes with a tradeoff. For this reason, we need to understand that some portion of our investments isn’t really ours – it is the government’s.
When looking at our Company Stock, we want to know how much of our stock is truly ours and how much is owned by the government. We also want to know how the tax rate we pay can change over time so we can make good decisions on when to sell the stock we own.
How Much of Our Company Stock is Truly Ours?
The best way figure out how much of our Company Stock is truly ours is to look at each vesting block of stock we have and calculate the tax cost of selling it today. There are a lot of different types of stock awards and they can be taxed differently depending on the decisions you make with them.
For example, Incentive Stock Options can cause a huge tax burden even before you actually sell them and get the cash. That means you could owe taxes and not even have the money to pay for them. And some awards, like Restricted Stock Units, typically offer no real benefit to holding them beyond the actual vest date.
There are far too many types of awards and situations to list here, but you should definitely know the tax effect of selling your stock before you begin a process to liquidate.
To figure this out, you need to know:
- What type of stock you own
- The details of each vesting block
What is the best way calculate the tax effect of selling your Company Stock?
- Download your holdings – including vesting information – from the financial institution that holds your shares.
- Apply the appropriate tax rate to each block of shares to tell you how much is yours and how much is the government’s.
- Add these figures across all the blocks of stock you own.
This calculation only gives you the tax figures as of today since the tax rate that is applied to your shares can change over time. This happens, usually, as short-term gains turn into long-term gains. It can also happen as with, ESPP, when a sale becomes what’s called a “qualified disposition” simply as a result of the passage of time.
I know this is getting complex and, to be clear, if you don’t have a lot of holdings, it may not be worth it to go through all of this. You could simply estimate the tax effect across your shares as a flat 20% – 40% and if the amount of stock you own is low, that may be enough for you to know.
However, if you do own several different blocks of stock and you want to sell them across different tax years, then it is important to understand their tax effect in order to create a strategy that works best for you.
If this is the case, calculate how much tax burden you want to reduce each year and then focus on the blocks that have the lowest tax cost first. This will allow you to reduce your exposure more quickly to your Company Stock without accepting a huge tax burden immediately. Then, once you’ve greatly reduced your exposure, you can attack the higher tax-burden shares.
Today’s tip is to know the tax effect of selling your company stock.