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5 Strategies to Incorporate Equity Compensation Into Your Financial Plan

21 Mar
5 Strategies to Incorporate Equity Compensation Into Your Financial Plan

By: Colleen Weber

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By Colleen Weber, CFP®, CPA

Equity compensation is an excellent employee benefit that fosters loyalty and increases retention rates, all without the initial expenses of raising base salaries or contributing to retirement plans. As a result, it has gained increasing popularity among many employers. However, if you are an employee with equity compensation, you should be mindful of important nuances. In this article, we explore the ins and outs of these plans and demonstrate how you can integrate them into your overall financial planning strategy.

Many of our clients are unsure how to leverage or optimize equity compensation in their portfolios. At Colleen Weber CPA, CFP®, our team is well-versed in equity compensation models and can assist you every step of the way. Here are five tips to help you begin making the most of your equity compensation benefits.

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 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.

1. 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, childcare 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.

2. 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.

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 one year prior to 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. 

3. 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 onto the stock for much longer than you have to. 

4. 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.

5. 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-plus 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.

Explore Your Equity Compensation Options

If a significant portion of your employee benefits comes from equity compensation, get in touch with us to explore your choices. Based in Chanhassen, Minnesota, Colleen Weber CPA, CFP® is committed to providing clients a comprehensive grasp of their equity compensation and its role in their overall financial situation. To discover how we can assist you in initiating your planning process, we invite you to book a free introductory meeting online or call (952) 470-0750.

About Colleen

Colleen Weber is a fee-only financial advisor, CERTIFIED FINANCIAL PLANNER™ professional, and CPA based in Chanhassen, Minnesota. With more than 20 years of financial planning experience, Colleen provides comprehensive financial planning and wealth management. She specializes in serving clients nearing retirement, retirees, busy professionals, and women. She is passionate about developing financial plans that save clients on taxes and investment strategies that help them pursue their goals. Learn more about Colleen by connecting with her on LinkedIn or booking a complimentary phone call meeting.