Equity compensation taxes: RSUs, stock options and ESPPs

Stock from your employer can become a large part of what you own. Each kind of equity pay follows its own tax rules, and the timing of the tax often surprises people. Some of it is taxed like salary the moment you receive it. Some isn't taxed until you sell. Incentive stock options can trigger the alternative minimum tax (AMT) on gains you haven't cashed in.

This guide covers the four common types: restricted stock units (RSUs), nonqualified stock options (NSOs), incentive stock options (ISOs) and employee stock purchase plans (ESPPs).

Restricted stock units (RSUs)

An RSU is a promise of shares that are delivered as they vest. When shares vest, their full value is wages. You pay income tax and Social Security and Medicare taxes on it, the same as salary.

Employers usually withhold federal tax on vested shares at the flat supplemental rate of 22%. Supplemental wages above $1,000,000 in a year are withheld at 37%. Many companies "sell to cover", keeping some shares to pay the withholding.

The flat rate is only withholding, not your actual tax. If your marginal rate is higher, you'll owe more at filing time.

After vesting, your cost basis is the value at vest. Selling later produces a capital gain or loss from that point. Hold more than a year for long-term rates.

Worked example: an RSU vest

Jordan is single with a $180,000 salary. This year, $40,000 of RSUs vest.

Part of Jordan's RSU income falls in the 32% bracket, above the flat rate. The gap is small here, but it grows with larger vests. Raising paycheck withholding or making an estimated payment avoids a surprise.

Nonqualified stock options (NSOs)

An option lets you buy shares at a fixed price, the strike price. With an NSO, the difference between the share's value and the strike price when you exercise, called the spread, is wages. It's taxed like an RSU vest, with the same withholding. Your basis is the value at exercise.

Incentive stock options (ISOs)

ISOs get special treatment. Exercising one adds no regular income tax. If you hold the shares long enough, the whole gain from strike price to sale price is a long-term capital gain.

"Long enough" means a qualifying disposition: you sell more than 24 months after the grant and more than 12 months after exercise. Sell earlier and it's disqualifying. Then the spread at exercise becomes ordinary income, though not wages for Social Security and Medicare.

Two other limits apply:

• Only $100,000 of options, measured at their grant-date value, can first become exercisable in a year. The rest are treated as NSOs.
• After you leave the company, ISOs must generally be exercised within 3 months to keep ISO treatment.

The AMT trap

The catch is the alternative minimum tax. If you exercise ISOs and still hold the shares at year end, the spread counts as income for AMT. AMT is a parallel calculation with its own exemption, $90,100 for single filers in 2026, and rates of 26% and 28%. You pay whichever tax is higher.

Suppose Jordan exercises ISOs with a $100,000 spread and holds the shares. With no other adjustments, his AMT would be about $17,440 more than his regular tax. That's tax owed on paper gains. If the stock then falls, the money is gone, though some AMT may come back later as a credit.

In this simple case, Jordan could exercise up to about $32,900 of spread before owing any AMT. That "room" changes every year with your income, which is why many people exercise ISOs in slices.

Employee stock purchase plans (ESPPs)

A qualified ESPP lets you buy company shares through payroll at a discount. The price must be at least 85% of the share value. Many plans add a lookback: the discount applies to the lower of the price at the start of the offering and the price on the purchase date.

You can buy at most $25,000 of stock a year, measured at the offering-start price. Contributions come from after-tax pay, and nothing is taxed at purchase.

The tax depends on how long you hold:

• Qualifying sale: more than 24 months after the offering starts and more than 12 months after purchase. The ordinary income is the smaller of your actual gain and the discount on the offering-start price. The rest is long-term gain.
• Disqualifying sale: the whole discount at purchase is ordinary income, and your basis is the value at purchase.

Worked example: an ESPP purchase

The offering starts with shares at $40. Six months later they're $50. His plan uses the largest discount the law allows, with a lookback. So Jordan buys 500 shares at $34, which is 85% of $40.

• Sell soon after buying, for $50: $16 a share is ordinary income, $8,000 in total.
• Sell in a qualifying sale, for $50: ordinary income is $6 a share, the discount on the $40 starting price, or $3,000. The other $5,000 is long-term gain.

Neither kind of ESPP income is subject to Social Security or Medicare tax.

Concentration risk

Holding a lot of one company's stock ties your savings to the same employer that pays your salary. A single stock can fall much further than a broad portfolio. Common ways to reduce the risk:

• Sell RSU shares at vest. At that point, selling usually adds little or no tax.
• Sell ESPP shares on a schedule, weighing the extra tax of a disqualifying sale against the risk of holding.
• Give appreciated shares to charity or a donor-advised fund. See QCDs and donor-advised funds.

How the app handles equity compensation

In Plan, the Equity compensation section holds companies, RSU and option grants, and ESPPs, with vesting schedules and your exercise and sale policies. The projection follows the rules above:

• RSU vests and NSO exercises are wages with withholding at the supplemental rates.
• ISOs carry the AMT adjustment and the AMT credit.
• ESPP purchases respect the yearly limit and the qualifying and disqualifying rules.
• ISOs over the yearly limit, or exercised more than three months after you leave, are treated as NSOs.

The Equity compensation screen shows the next 24 months and the tax each year adds compared with the same plan without equity pay. It also shows your ISO room before AMT, concentration over time and a range of possible share prices. A what-if sells your employer shares in equal yearly parts over 1 to 10 years.

Not modeled: state AMT, 83(b) elections and restricted stock, double-trigger RSUs, early exercise and dividends on employer stock.

Frequently asked questions

Why do I owe tax when my RSUs vest if I didn't sell?

Because vested shares are pay. You received something of value, the same as cash wages used to buy stock.

Should I exercise ISOs early in the year?

It gives you until December 31 to decide whether to sell the same year. A same-year sale is disqualifying but removes the AMT adjustment.