Teach me about ESPPs!

[riverwed070707]

I've never worked for a publicly traded company. Company I'm with now had a generous RSU package that came with my hiring offer (15% of my salary in RSUs that vests over 4 years). They also have an employee stock purchase plan. I'm unsure if the way the program operates is typical but essentially there are 2 times a year you can choose to purchase stock at a 15% discount of the current rate. You set how much you want to purchase (1-15% of your salary) and then over the next 6 months they withhold that amount from your paycheck. At the end of the 6 months, they buy on your behalf the number of shares your contribution amounts equates to. The final price is the lower of the stock price at the time of the enrollment or the time of purchase, so if the stock goes down, you aren't stuck paying the higher 6 month ago price and if it goes up, you're getting an even better deal. You can withdraw at anytime (and get your contributions back) up to 2 days before the purchase date. You can sell the stock at any time, except during certain blackout periods.

I like the stock and the company has strong growth performance and potential. I was already buying shares at market rate when I was contracting for this company so it seems silly I wouldn't continue to do so. I'm just unsure of how much to buy in. Does it make sense to do the full 15% knowing I could immediately sell all or a portion of it at a profit? What other tips and strategies should know about ESPPs? Risks I probably haven't considered?

[disneysteve]

I can't comment on the nitty gritty but will just say to keep in mind that most advise not to have more than 5-10% of your portfolio in any single stock, especially your employer's stock. You don't want to find yourself in a situation where things go bad and you lose both your job and a big chunk of your investments if the company falters. Enron is the poster child example of this. This is why 401k plans no longer give the company match in stock like they used to.

[riverwed070707]

I can't comment on the nitty gritty but will just say to keep in mind that most advise not to have more than 5-10% of your portfolio in any single stock, especially your employer's stock. You don't want to find yourself in a situation where things go bad and you lose both your job and a big chunk of your investments if the company falters. Enron is the poster child example of this. This is why 401k plans no longer give the company match in stock like they used to.

Good call out, especially for people early in their career/investing. I anticipate being with this company for the next 4 years and I could purchase the max all 4 years and it would not come close to being 10% of my portfolio even if I held all the stock. I'm thinking it would make sense to do something like buy it all, and sell off my 15% discount any time the price reaches a certain percent gain over my purchase price to minimize losses if the stock were to take a major hit.... that said, it would definitely be one of my riskier investments as people on this board are intimately familiar with how quickly a tech stock can be hyped and sink.

[disneysteve]

Good call out, especially for people early in their career/investing. I anticipate being with this company for the next 4 years and I could purchase the max all 4 years and it would not come close to being 10% of my portfolio even if I held all the stock. I'm thinking it would make sense to do something like buy it all, and sell off my 15% discount any time the price reaches a certain percent gain over my purchase price to minimize losses if the stock were to take a major hit.... that said, it would definitely be one of my riskier investments as people on this board are intimately familiar with how quickly a tech stock can be hyped and sink.

I think being able to buy stock at a 15% discount and sell it virtually any time is a gift worth taking for sure. I don't know how that is handled at tax time, though. I imagine it bites you somehow.

[Jluke]

For the vesting in 4 years.

does that mean purchases in 2024 will vest in 2028?

purchases in 2025 will vest in 2029 and so on?

if you’re only planning for four years then will you miss out on vesting for some purchases ??

[riverwed070707]

For the vesting in 4 years.

does that mean purchases in 2024 will vest in 2028?

purchases in 2025 will vest in 2029 and so on?

if you’re only planning for four years then will you miss out on vesting for some purchases ??

The RSUs I acquired on my hire date have a 4 year staggered vesting period, meaning 25% of the stock vests each year of employment. After 4 years 100% is fully vested.
The ESPP does not have a vesting period, although I've been doing some reading this morning and it sounds like there is a tax advantage to holding them for 2 years (the gains become taxed as capital gains instead of income) but regardless there is not a required holding period and its not tied to my employment after the purchase is made.

[Jluke]

I knew I was missing a detail. I got distracted by the vesting terms and your 4-year plan.

[Fishindude77]

Does the stock traditionally pay any dividends?
That is something else to consider.

I feel a little differently about single stocks like this than others.
Most of us investing in mutual funds, etc. are going in rather blindly putting full faith in the fund manager or company, simply based on track record. If this is a company you are quite familiar with, have faith in and understand something about their history and management it could be a great deal. Would think your inside knowledge of the company would give you a leg up.

[kork13]

The ESPP sounds like a slam dunk for you -- if you have the income/cashflow flexibility, I'd take advantage of the full 15%. Since the stock won't become an outsized portion of your portfolio, I would go in with the plan of holding for long term, but as a taxable account, you can always sell whenever you feel the need to.

Steve mentioned the taxes -- it's really very straightforward. Since you're buying the company stock out of your own income, it's tested just like any other stock purchase. It just so happens that the stock price agreed to by the buyer (you) & seller (company) is lost than market. So you just end up with a lower cost basis. You'll owe taxes based on the profits upon sale based on that discounted basis.

[LivingAlmostLarge]

Here's the deal with rsu and espp. Sell the rsu upon vests do not hold. It's income that is taxed as such and there is no tax benefit to holding it. Second its income in the day of vest so if you got it at $100/share and it's $125/share when it vests, you pay taxes on $125. Sell immediately do not hold because the value say $50k is recognized income. If the stock goes up or down then it still is $50k income.

ESPP if you hang onto it for two years then you get the 15% discount taxed at long term capital gains. If not it's taxed as income.

The way we used to look at it was a short term savings account paying 15% minus taxes so around 10% for 6 month cd. We would sell ours up on vest mostly because we are super conservative and didn't like tying up so much income in the company.

Most people I know hang onto every rsu and espp and never sell. So they have millions of dollars in MSFT stock. My neighbor never sold any and has $1m in taxable stock from rsu and espp and now sells whenever she needs money since she doesn't work there anymore. Not the best strategy and highly volatile but I guess it's better than nothing.

Personally I'd sell rsu and keep espp for 2 years then start peeling away the espp. Mostly because I'm not keen on keeping so much in company stock.

But a big thing to consider is how much are they giving you? DH the bulk of his compensation before was in company stock. Like I mentioned we had to sell the rsu to even cover the taxes. We didn't make enough cash to cover the taxes on the stock rsu so it was income the rsu. It was more than 100% of his cash compensation.

So for us we sold every vest every 3 months then gave ourselves an allowance, paid taxes, and saved. But it depends. 15% of income per year is not terrible amount to keep but it turns into 25% if you max out your espp.

[riverwed070707]

Here's the deal with rsu and espp. Sell the rsu upon vests do not hold. It's income that is taxed as such and there is no tax benefit to holding it. Second its income in the day of vest so if you got it at $100/share and it's $125/share when it vests, you pay taxes on $125. Sell immediately do not hold because the value say $50k is recognized income. If the stock goes up or down then it still is $50k income.

ESPP if you hang onto it for two years then you get the 15% discount taxed at long term capital gains. If not it's taxed as income.

The way we used to look at it was a short term savings account paying 15% minus taxes so around 10% for 6 month cd. We would sell ours up on vest mostly because we are super conservative and didn't like tying up so much income in the company.

Most people I know hang onto every rsu and espp and never sell. So they have millions of dollars in MSFT stock. My neighbor never sold any and has $1m in taxable stock from rsu and espp and now sells whenever she needs money since she doesn't work there anymore. Not the best strategy and highly volatile but I guess it's better than nothing.

Personally I'd sell rsu and keep espp for 2 years then start peeling away the espp. Mostly because I'm not keen on keeping so much in company stock.

But a big thing to consider is how much are they giving you? DH the bulk of his compensation before was in company stock. Like I mentioned we had to sell the rsu to even cover the taxes. We didn't make enough cash to cover the taxes on the stock rsu so it was income the rsu. It was more than 100% of his cash compensation.

So for us we sold every vest every 3 months then gave ourselves an allowance, paid taxes, and saved. But it depends. 15% of income per year is not terrible amount to keep but it turns into 25% if you max out your espp.

Super useful info! Am I understanding correctly that the RSUs sell at the price they were on the vesting day regardless of how long past that you hold them? Thats a big bummer - is the only option to cash them out or could I use it to fund my 401k or HSA?

That's wild your DH had reoccurring RSUs and that they were such a significant portion of his comp - you'd have to have so much faith in your org to do that. My RSUs were a 1 time 15% at hire date and then I have the option to contribute 1-15% through ESPP so it just feels like a nice little perk rather than part of my compensation.

[riverwed070707]

Does the stock traditionally pay any dividends?
That is something else to consider.

I feel a little differently about single stocks like this than others.
Most of us investing in mutual funds, etc. are going in rather blindly putting full faith in the fund manager or company, simply based on track record. If this is a company you are quite familiar with, have faith in and understand something about their history and management it could be a great deal. Would think your inside knowledge of the company would give you a leg up.

I'm not a big fan of single stocks - I've dabbled in it and it doesn't usually go well for me VTSAX is my biggest earner by a long shot.
No dividends. Its a 15 year old tech company that just became profitable this year (due to reinvestment and growth acquisition). I don't really consider myself to have inside knowledge of financials and performance, but the part that has always impressed me and made me feel comfortable investing in the company is that 75% of the Fortune 500 are customers. That's significant and either the company does really well or at some point it gets acquired but its not just going to sink or go away.

[LivingAlmostLarge]

Super useful info! Am I understanding correctly that the RSUs sell at the price they were on the vesting day regardless of how long past that you hold them? Thats a big bummer - is the only option to cash them out or could I use it to fund my 401k or HSA?

That's wild your DH had reoccurring RSUs and that they were such a significant portion of his comp - you'd have to have so much faith in your org to do that. My RSUs were a 1 time 15% at hire date and then I have the option to contribute 1-15% through ESPP so it just feels like a nice little perk rather than part of my compensation.

Correct the RSU are recognized as income on the day of vests. Our compensation was such he made 25% cash and 75% stock. So It didn't make sense and was fiscally impossible to cover the taxes on our stock. We were in the 37% bracket at the time. Obviously selling stock to live was a necessity. Many people across all sectors the higher up you go the more your compensation is tied to performance of the company and stock. So they give you stock as incentive to work more. They do not usually "true" you up if the stock goes down, because they don't take it away if it goes up or else you'd have to return the upside.

I recall when DH started his first four year grant 3x which was only okay. Most I knew 10x. but he got promoted 2x and it didn't matter in the four years so his comp went way up because of promotion. But his salary went up say from $200k to $250k but target comp total (TCT) went 4x with the promos all stock. So it was difficult to manage cash. We had to go on an allowance because we had to sell our stock to pay taxes. I know many people who can't cope with this.