Restricted stock compensation is structured either as Restricted Stock Units (RSUs) or Restricted Stock Awards (RSAs), representing actual shares or the promise of shares subject to vesting conditions.
Restricted Stock Units (RSUs). An RSU is a company’s commitment to deliver a share of stock to the employee at a future date upon satisfaction of vesting criteria (such as time-based tenure or milestone performance). RSUs carry no voting or dividend rights during the vesting period, as no shares are owned yet. Upon vesting, the shares are delivered, and their full fair market value (FMV) is taxed as ordinary compensation income. This value is subject to FICA and income tax withholding. The employer typically sells a portion of the vested shares to cover this withholding (a sell-to-cover transaction). A frequent risk for high earners is the supplemental wage withholding rate (22% federally). If your marginal tax bracket is 32% or 37%, the employer’s default withholding will be insufficient, resulting in a large unpaid tax liability and potential underpayment penalties (see section “The RSU and Bonus Tax Gap” for details on the RSU tax gap). The vesting-date FMV becomes the taxpayer’s cost basis. Subsequent price movements are taxed as capital gains when the shares are sold.
Restricted Stock Awards (RSAs) and the 83(b) Election. Unlike RSUs, an RSA is a transfer of actual shares to the employee on the grant date, though the shares remain restricted and subject to forfeiture if vesting conditions are not met. RSAs carry voting rights and dividend eligibility from day one. Under the default rules of IRC §83(a), the employee is taxed on the FMV of the shares as they vest, minus any amount paid for them. This creates ordinary income liability at each vesting date. However, under IRC §83(b), the employee can file a Section 83(b) election with the IRS within 30 days of the grant date. This election changes the tax treatment:
The 83(b) election is highly advantageous in early-stage startups, where the stock value at grant is nominal (e.g., fraction of a cent), resulting in minimal immediate tax. If the company succeeds, the entire appreciation is taxed at lower capital gains rates instead of ordinary income rates. However, the election is a double-edged sword: if the shares decline in value or are forfeited due to leaving the company, no tax refund is allowed for the taxes paid at grant.