RSU Vesting Plan: 25% Reduction in Concentration Risk

RSU Vesting Plan: 25% Reduction in Concentration Risk

Executive Summary

Many executives and high-earning employees rely heavily on Restricted Stock Units (RSUs) as a significant part of their compensation. This creates a dual challenge: a substantial tax burden upon vesting and an over-concentration of their portfolio in their employer's stock. Golden Door Asset helped a client with a heavily RSU-reliant compensation package develop a systematic plan to strategically sell vested shares, reinvest in a diversified portfolio, and minimize tax implications. This plan reduced concentration risk by 25% and is projected to save $30,000 in taxes over five years.

The Challenge

Our client, a senior engineer at a publicly traded technology company, received a significant portion of their annual compensation in the form of Restricted Stock Units (RSUs). While grateful for this lucrative benefit, the client faced several pressing financial challenges. Their annual base salary was $250,000, but the RSUs, vesting annually, contributed an additional average of $150,000 per year to their total compensation. This pushed them into a higher tax bracket, significantly increasing their annual tax liability.

More importantly, the client's investment portfolio was heavily skewed towards their employer's stock. Before engaging Golden Door Asset, approximately 60% of their total investment portfolio (valued at $600,000) consisted of their employer's stock. This created substantial concentration risk. If the company's stock price were to decline significantly, it would not only impact their current wealth but also their future income stream due to the potential decrease in the value of future RSU grants.

Specifically, a hypothetical 20% drop in their company's stock price would translate into a $72,000 loss within their portfolio (20% of the $360,000 currently held in the company's stock). Furthermore, it also significantly reduced diversification and prevented the client from taking advantage of potentially higher growth opportunities in other asset classes. The client expressed concern about the long-term financial implications of this lack of diversification and the potential for a significant financial setback. They realized the urgent need for a structured plan to manage their RSU holdings effectively and mitigate the inherent risks. Their main goal was to diversify their holdings while minimizing their overall tax liability in the process.

The Approach

Golden Door Asset developed a comprehensive RSU vesting plan tailored to the client's specific financial situation and risk tolerance. Our approach involved the following key steps:

1. Detailed RSU Vesting Schedule Analysis: We meticulously tracked the client's RSU vesting schedule, including the number of shares vesting each year, the vesting dates, and the fair market value of the shares at the time of vesting. This provided us with a clear understanding of the client's potential future income and tax obligations.

2. Tax Liability Modeling: We created a detailed tax model that projected the client's tax liability based on various scenarios, including different selling prices for the vested shares. This model considered both federal and state income taxes, as well as capital gains taxes. The tax model also included the impact of potential deductions and credits. We ran simulations based on various RSU selling strategies.

3. Diversification Strategy: We developed a diversification strategy that aimed to gradually reduce the client's concentration in their employer's stock while minimizing the tax impact. This involved selling a portion of the vested RSUs each year and reinvesting the proceeds in a diversified portfolio of stocks, bonds, and other asset classes, aligned with the client's risk tolerance and long-term financial goals. The allocation included a mix of ETFs and mutual funds that provided broad market exposure. The recommended allocation included 40% in a broad-market equity ETF, 30% in a diversified bond fund, 20% in international equities, and 10% in real estate.

4. Strategic Selling Plan: The selling strategy involved selling a specific percentage of vested shares each quarter. The percentage was calculated to balance tax efficiency with diversification. We prioritized selling shares with the highest cost basis, in some years, this meant strategically delaying the sale of some shares to the following year in order to utilize available tax-loss harvesting opportunities.

5. Tax-Loss Harvesting: We actively monitored the client's portfolio for opportunities to engage in tax-loss harvesting. This involved selling assets that had declined in value to offset capital gains and reduce the overall tax liability.

6. Regular Monitoring and Adjustments: We continuously monitored the performance of the client's portfolio and the market conditions, making adjustments to the diversification strategy and selling plan as needed to ensure that the client's financial goals were being met.

Technical Implementation

The implementation of the RSU vesting plan required a robust technology platform and sophisticated analytical tools. Golden Door Asset leveraged its proprietary AI-powered platform to automate many of the key processes, including:

1. Vesting Schedule Tracking: The platform automatically imported and tracked the client's RSU vesting schedule from their employer's stock option plan administrator (e.g., E*TRADE, Fidelity Stock Plan Services). This eliminated the need for manual data entry and ensured that the vesting schedule was always up-to-date.

2. Tax Modeling and Projections: The platform used sophisticated tax algorithms to calculate the client's potential tax liability based on various scenarios. These algorithms considered federal and state income taxes, capital gains taxes, and the impact of various deductions and credits. We used Monte Carlo simulations to project tax liabilities over a 5-year period, accounting for potential fluctuations in the company's stock price.

3. Portfolio Optimization: The platform used a portfolio optimization algorithm to determine the optimal asset allocation for the client's diversified portfolio. This algorithm considered the client's risk tolerance, investment goals, and the correlation between different asset classes. The algorithm also factored in transaction costs and tax implications.

4. Automated Trading: The platform automatically executed trades to implement the selling plan and rebalance the portfolio. This ensured that the trades were executed efficiently and in a timely manner. The platform also tracked the cost basis of each share sold, which was essential for calculating capital gains taxes.

5. Tax-Loss Harvesting: The platform identified opportunities for tax-loss harvesting by continuously monitoring the performance of the client's portfolio. When an opportunity arose, the platform automatically generated a trade order to sell the asset with the loss and purchase a similar asset to maintain the desired asset allocation.

The tax model incorporated the following formulas:

• Federal Income Tax: Calculated based on the client's estimated taxable income and the applicable federal income tax brackets.
• State Income Tax: Calculated based on the client's state of residence and the applicable state income tax rates.
• Capital Gains Tax: Calculated based on the difference between the selling price and the cost basis of the shares sold, multiplied by the applicable capital gains tax rate (either short-term or long-term, depending on the holding period).
• Tax-Loss Harvesting Benefit: Calculated by multiplying the capital loss realized by the applicable capital gains tax rate.

Results & ROI

The implementation of the RSU vesting plan yielded significant positive results for the client:

• Concentration Risk Reduction: The client's concentration in their employer's stock was reduced from 60% to 35% of their total investment portfolio over a 3-year period. This represents a 25% reduction in concentration risk, significantly mitigating the potential impact of a decline in the company's stock price. This aligns more closely with the client's risk tolerance and provides a more stable financial foundation.
• Tax Savings: Through strategic selling and tax-loss harvesting, the plan is projected to save the client approximately $30,000 in taxes over a 5-year period. This is primarily due to the deferral of capital gains taxes and the utilization of capital losses to offset capital gains. Specifically, in Year 1, tax-loss harvesting saved $3,500 by offsetting gains from other investments.
• Portfolio Diversification: The client's portfolio became significantly more diversified, with exposure to a broader range of asset classes, including stocks, bonds, real estate, and international equities. This diversification reduces overall portfolio volatility and improves the potential for long-term growth.
• Improved Financial Security: By reducing concentration risk and diversifying their portfolio, the client gained a greater sense of financial security and confidence in their ability to achieve their long-term financial goals. The peace of mind resulting from a well-managed financial plan is invaluable.
• Portfolio Performance: While the primary goal was not maximizing returns (but rather mitigating risk and minimizing taxes), the diversified portfolio has performed competitively with the S&P 500, providing a solid return on investment without the undue risk associated with a concentrated position. The diversified portfolio yielded an average annual return of 9% over the past three years.

Key Takeaways

For other RIAs and wealth managers, this case study highlights the following key takeaways:

1. RSU management is a critical service for high-earning employees: Many clients undervalue the complexity and risk associated with RSU compensation. Offering specialized planning around RSUs provides significant value.
2. Tax planning and diversification go hand-in-hand: A successful RSU vesting plan requires a holistic approach that considers both tax implications and diversification strategies.
3. Technology is essential for efficient RSU management: Automating key processes, such as vesting schedule tracking, tax modeling, and portfolio rebalancing, is crucial for managing RSU plans effectively and efficiently.
4. Communicate the benefits of diversification clearly: Clients often need to be educated on the importance of diversification and the risks associated with concentrated positions. Clearly articulate the potential downside of holding a large amount of company stock.
5. Regular monitoring and adjustments are critical: Market conditions and tax laws can change, so it is important to continuously monitor the client's portfolio and make adjustments to the plan as needed.

About Golden Door Asset

Golden Door Asset builds AI-powered intelligence tools for RIAs. Our platform helps advisors automate complex tax planning strategies and deliver personalized financial advice at scale. Visit our tools to see how we can help your practice.