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You don't necessarily get taxable income from RSUs [edit: when they're granted] if they're structured in a 'Facebook Style' RSU which has an expiration if the c

You don't necessarily get taxable income from RSUs [edit: when they're granted] if they're structured in a 'Facebook Style' RSU which has an expiration if the company does not IPO within a certain time frame. As long as there's a real risk of loss you can avoid the taxable income and private companies with high valuations will do this to help employees avoid the bad tax situation on an illiquid asset (without need to have huge amounts of cash to exercise options). Options similarly must expire after 10 years for similar risk of loss tax reasons (as I understand it). I was told the RSUs are 'Facebook Style' because they were the first to pioneer this. Even options with a low strike price can be problematic because tax law is dumb and charges tax on the spread before sale when you exercise (so you can end up with a huge tax bill on exercise without the ability to sell the shares to cover it). ISOs were supposed to prevent this, but AMT has not increased to match inflation over time and was never updated to accommodate for this case specifically so you still have to pay tax if you hit it (which you will because it's low). This wasn't considered originally because companies intending to IPO were not private >10yrs so expiration risk was not a serious problem and you could just wait for the IPO before exercise. So with options even if you save the exercise cash you have to save a large amount for taxes depending on the spread, or deal with a bunch of loan shark like companies that will take a cut to front you the capital. For most people RSUs are probably preferable unless you get in really early and can exercise all the options when the spread is zero (preferably with an 83b election for early exercise on non-vested shares).

cyan_atrus 7y ago
i think you're saying this, but just to clarify: RSUs (even facebook-style) are definitely taxable. With options, you're in control of when to take the tax hit. With facebook-style RSUs, the tax hit comes when the stock gets distributed (taxed as ordinary income) -- usually in the form of withholding some amount of shares. --- Important to remember with RSUs in pre-IPO companies: even though you might get shares distributed at IPO, you're usually subject to a lock up. This is unfortunate because if you receive stock at IPO, you have to pay taxes at them -- so if your company IPOs at $50, then drops to $20 when the lockup expires, you have to pay taxes on the shares you received at $50 value even though you couldn't sell shares at that value.
- fossuser 7y ago
  Yes, thanks for the clarification. My understanding is they're taxable, but only after they're liquid which makes it easier for the employee. I think most companies doing FB style do something fancy to avoid the distribution tax lockout issue (witholding some to cover tax or direct listing to avoid lockout). The situation where you have a huge tax bill and no cash to pay it (or worse a huge tax bill and your illiquid stocks have crashed to $0) shouldn't happen, though I guess there's still a chance in the pathological case you describe? Not sure if that's avoidable. The other thing I forgot to mention is that if you do risk all this cash on option exercise/taxes and your company does go to $0 you do get to take a $3000 AMT tax credit each year until you die (but maybe only if you don’t have kids or something, can’t remember) - it’s not great.
  - junar 7y ago
    Actually, underwithholding can still happen. Employers may withhold at a flat 22% federal rate, which can be significantly lower than a highly paid employee's actual marginal tax rate. So the employee may still need to increase the withholdings on their regular pay, or make an estimated tax payment for each quarter of RSU income.
ridv 7y ago
This is one thing I've struggled to understand. Scenario A: RSUs have an expiration date. RSUs you own expire before the company hits a liquidity event. Scenario B: RSUs do not have an expiration date but the company goes bankrupt/dissolves and never hits a liquidity event. Is one of these scenarios taxable and the other one not? One of my biggest fears about joining a startup (pre covid) was scenario A happening.
- fossuser 7y ago
  This is my current possibly incorrect understanding: Scenario A there’s no tax, but the company is failing to hold up their end of the bargain and this would probably lead to everyone quitting or some sort of RSU regrant. Scenario B I think you’re taxed when they vest. If there’s no IPO then you don’t get any money.

cyan_atrus 7y ago

i think you're saying this, but just to clarify: RSUs (even facebook-style) are definitely taxable. With options, you're in control of when to take the tax hit. With facebook-style RSUs, the tax hit comes when the stock gets distributed (taxed as ordinary income) -- usually in the form of withholding some amount of shares. --- Important to remember with RSUs in pre-IPO companies: even though you might get shares distributed at IPO, you're usually subject to a lock up. This is unfortunate because if you receive stock at IPO, you have to pay taxes at them -- so if your company IPOs at $50, then drops to $20 when the lockup expires, you have to pay taxes on the shares you received at $50 value even though you couldn't sell shares at that value.

fossuser 7y ago
Yes, thanks for the clarification. My understanding is they're taxable, but only after they're liquid which makes it easier for the employee. I think most companies doing FB style do something fancy to avoid the distribution tax lockout issue (witholding some to cover tax or direct listing to avoid lockout). The situation where you have a huge tax bill and no cash to pay it (or worse a huge tax bill and your illiquid stocks have crashed to $0) shouldn't happen, though I guess there's still a chance in the pathological case you describe? Not sure if that's avoidable. The other thing I forgot to mention is that if you do risk all this cash on option exercise/taxes and your company does go to $0 you do get to take a $3000 AMT tax credit each year until you die (but maybe only if you don’t have kids or something, can’t remember) - it’s not great.
- junar 7y ago
  Actually, underwithholding can still happen. Employers may withhold at a flat 22% federal rate, which can be significantly lower than a highly paid employee's actual marginal tax rate. So the employee may still need to increase the withholdings on their regular pay, or make an estimated tax payment for each quarter of RSU income.

ridv 7y ago

This is one thing I've struggled to understand. Scenario A: RSUs have an expiration date. RSUs you own expire before the company hits a liquidity event. Scenario B: RSUs do not have an expiration date but the company goes bankrupt/dissolves and never hits a liquidity event. Is one of these scenarios taxable and the other one not? One of my biggest fears about joining a startup (pre covid) was scenario A happening.

fossuser 7y ago
This is my current possibly incorrect understanding: Scenario A there’s no tax, but the company is failing to hold up their end of the bargain and this would probably lead to everyone quitting or some sort of RSU regrant. Scenario B I think you’re taxed when they vest. If there’s no IPO then you don’t get any money.