Restricted stock awards are a form of employee compensation where you're paid in stock, though you're not immediately free to sell the stock until you've been employed for a certain amount of time – when the stock is said to vest. In some cases, you may be paid in restricted stock units, which essentially are placeholders that are exchanged for actual stock when the payment vests. In either case, you typically owe tax, reported on the W-2 income tax form, when the stock vests.
Unless you make an 83(b) election, you can generally expect to find restricted stock awards on your W-2 form when the awards vest.
How Restricted Stock Works
Employers sometimes prefer to pay employees a portion of their payment in stock, rather than in ordinary cash. They often don't want to immediately transfer the stock without restrictions to employees, though, and instead set up a so-called vesting schedule where the stock gradually becomes available to sell.
Sometimes this is done using what is called restricted stock units, which are exchanged for shares of the employer's stock, according to the vesting schedule. Once stock vests, employees are free to sell it or hold on to it as they would be with any other kind of stock investment.
Understanding Tax Liabilities
When restricted stock vests, employees are taxed on the market value of the stock, minus anything that they paid for it. Often stock grants simply give the restricted stock to employees as compensation, so they will have paid nothing for it and will be taxed on the market value of the stock.
Employers often are required to withhold tax from employee paychecks to cover this restricted stock as it vests. Sometimes, employees can have employers withhold some of the stock itself to pay the tax.
Exploring Capital Gains
Once employees own the stock, they can sell it within one year and pay tax on any additional gains since the time of vesting as a short-term capital gain, charged at the ordinary rate. If they hold on to it for more than a year, they can claim a capital gain or loss on any change in value when they do sell, similar to stock purchased on the open market.
Making an 83(b) Election
In some cases, employees paid in restricted stock can choose to make what's called an 83(b) election within 30 days of being awarded the restricted stock. In this case, employees are charged income tax based on the value of the stock when it's first awarded, not after it vests, and further fluctuations in the stock price are treated as a capital gain or loss.
If employees anticipate that their restricted stock will gain in value between when it's awarded and when it actually vests and is available to sell, this can be advantageous because they will pay the lower capital gains tax rate rather than the ordinary income rate on that price difference. If the stock decreases in value, this can cost the employees money, since they will pay the tax on the higher price at the award time rather than on the lower price at vesting time and at best will be able to claim a capital loss on the difference.