Difference between RSAs and RSUs: What You Need to Know

If you’ve ever been offered equity compensation at work, you’ve probably heard of Restricted Stock Awards (RSAs) and Restricted Stock Units (RSUs). These are two popular ways companies reward their employees with a piece of the company’s future success. But what’s the difference? While they may seem similar at first, they have key distinctions that both employees and employers should understand. Let’s break it down.

What are Restricted Stock Awards (RSAs)?

Restricted Stock Awards, or RSAs, are shares of a company’s stock that employees receive with certain restrictions. Unlike stock options, which give you the right to buy shares later, RSAs grant you the actual shares at the time of the award. However, you can’t do anything with them right away because they come with strings attached—like having to stay with the company for a certain number of years.

The idea behind RSAs is to give employees a real stake in the company. By holding actual shares, you get to experience the ups (and sometimes downs) of the company’s stock performance, aligning your interests with the company’s overall goals. RSAs also come with perks like potential dividends and voting rights.

How do RSAs work?

• Granting: When you’re granted RSAs, you might have to pay a small amount for the shares. Usually, this price is lower than the stock’s current value.
• Vesting: The shares are yours, but you can’t sell or transfer them until they vest—either over a set number of years or after a certain company event, like an IPO.
• Receiving: Once the shares vest, they’re fully yours, and you can decide to hold onto them or sell them.

RSAs in Startups

Startups often issue RSAs to early employees before any significant funding rounds, when the fair market value (FMV) of common stock is low. This approach can be very attractive to employees, as they can benefit from significant value increases if the company succeeds.

RSUs in Established Companies

RSUs are more commonly used by established companies with higher stock values. These companies may prefer RSUs over RSAs because RSUs don’t require employees to pay for the shares upfront, making them an attractive option when stock values are high or volatile.

Characteristics of RSA

• Immediate Ownership: When an RSA is granted, employees receive actual shares of the company’s stock. Although these shares are restricted, they represent real ownership in the company.
• Voting Rights: Employees holding RSAs typically have voting rights, allowing them to participate in company decisions such as board elections and major corporate actions.
• Dividends: Employees may receive dividends on their RSA shares if the company declares and pays them during the vesting period. This provides an additional financial benefit and can further align employees’ interests with company performance.
• Vesting Schedule: RSAs come with a vesting schedule that dictates when the shares become fully owned by the employee. The vesting can be time-based, performance-based, or a combination of both. Time-based vesting typically occurs over several years, with shares vesting incrementally. Performance-based vesting is tied to achieving specific company or individual performance milestones.

Pros and Cons of RSA

Pros

• Taxation Benefits: RSAs offer potential tax advantages. Employees can make an 83(b) election, which allows them to pay ordinary income tax on the value of the shares at the time of grant rather than at vesting. This can be beneficial if the value of the shares is low at the grant date and is expected to increase significantly.
• Employee Motivation: By providing employees with actual shares, RSAs foster a sense of ownership and alignment with the company’s goals. Employees are often more motivated and committed to the company’s success, knowing that their financial well-being is directly tied to the company’s performance.
• Retention Tool: RSAs can be an effective tool for employee retention. The vesting schedule ensures that employees need to stay with the company for a certain period to gain full ownership of their shares. This can help reduce turnover and maintain stability within the organization.

Cons

• Administrative Complexity: Managing RSAs can be complex for companies. Employers need to track vesting schedules, calculate fair market value, and ensure compliance with tax regulations. This can be time-consuming and may require specialized knowledge to handle tax reporting and employee communication effectively.
• Risk of Forfeiture: If employees leave the company before their RSAs are fully vested, they may forfeit the unvested shares. This can lead to dissatisfaction if employees are not able to benefit from the full value of their awards.
• Upfront Tax Burden: Employees who do not make an 83(b) election will face a higher ordinary income tax burden when their shares vest, as the value of the shares at vesting will be taxed as ordinary income. This can be a significant financial consideration if the share value has appreciated substantially.

What are Restricted Stock Units (RSUs)?

Restricted Stock Units, or RSUs, are a little different. With RSUs, the company promises to give you shares in the future if you meet certain conditions, usually staying with the company for a certain number of years or hitting performance targets. The big difference here is that you don’t receive actual shares at the time of the grant.

RSUs are especially common in larger, more established companies where stock values are higher, and they don’t require any upfront payment from employees. Once your RSUs vest, they turn into real shares, and you can either sell them or hold onto them for long-term gains.We have discussed RSUs in detail in our blog.

How RSUs Work

1. Granting: At the time of the RSU grant, you do not receive any actual shares or need to pay anything. The shares are promised to you in the future based on vesting conditions.
2. Vesting: You must wait until the RSUs vest according to the specified schedule, which is often based on time or performance milestones.
3. Receiving: Upon vesting, you receive either the shares or their cash equivalent. You can then sell the shares if you choose.

Characteristics of RSU

• Contingent Ownership: Employees receiving RSUs do not have immediate ownership or voting rights. Instead, they have a contingent right to receive shares once the vesting conditions are met.
• Vesting Schedule: RSUs are subject to a vesting schedule that determines when the shares are fully owned by the employee. The vesting schedule can be time-based, performance-based, or a combination of both. Common vesting schedules include cliff vesting, where shares vest all at once after a specified period, or graded vesting, where shares vest incrementally over time.
• Taxation: RSUs are taxed at vesting. Employees must pay ordinary income tax based on the fair market value of the shares at the time of vesting. Any future appreciation in the value of the shares is subject to capital gains tax when the employee decides to sell the shares.

Pros and Cons of RSU

Pros

• Tax Advantages for Employees: RSUs offer the advantage of deferring tax obligations until the shares vest. This allows employees to avoid paying taxes on the shares until they actually receive them. Additionally, any future appreciation in the stock’s value may be subject to the lower capital gains tax rate if the employee holds the shares for an extended period.
• Lower Risk Compared to Stock Options: RSUs eliminate the risk associated with stock options. Unlike stock options, which may become worthless if the stock price declines below the exercise price, RSUs guarantee that employees will receive a specific number of shares once the vesting conditions are met. This provides employees with tangible value and reduces the risk of losing out on potential rewards.
• Flexibility in Equity Compensation: RSUs offer flexibility in structuring equity compensation plans. Companies can tailor RSU grants to align with their compensation strategy and performance goals. This flexibility allows for customized vesting schedules and performance targets that meet the company’s objectives.

Cons

• Dilution Concerns: Granting RSUs increases the number of outstanding shares, which can dilute the ownership percentage of existing shareholders. This dilution can impact earnings per share and may be a concern for current shareholders. Companies need to manage RSU grants carefully to balance employee incentives with shareholder interests.
• No Immediate Ownership or Voting Rights: Unlike RSAs, RSUs do not provide employees with immediate ownership or voting rights. Employees must wait until the RSUs vest before they receive shares and gain shareholder rights. This can be a drawback for employees who value immediate ownership and involvement in corporate decisions.

Comparing RSA vs RSU

To better understand the differences between RSA and RSU, let’s compare their key aspects side by side:

Feature	Restricted Stock Award (RSA)	Restricted Stock Unit (RSU)
Definition	Employees receive actual shares of stock with specific restrictions.	Employees receive a promise to deliver shares in the future, contingent upon meeting vesting conditions.
Ownership	Tangible ownership and shareholder voting rights.	No immediate ownership or voting rights.
Dividends	Potential to receive dividends.	No immediate dividends.
Vesting Schedule	Typically time-based or milestone-based, with shares vesting incrementally or upon achieving performance targets.	Typically time-based or milestone-based, with shares vesting upon completion of the vesting schedule.
Tax Implications	Ordinary income tax at grant date (if 83(b) election is made) or at vesting; future appreciation subject to capital gains tax.	Ordinary income tax at vesting based on the fair market value; future appreciation subject to capital gains tax.

RSAs and RSUs at Termination

RSAs at Termination

• Vested RSAs: If you leave the company and have vested RSAs, you can keep and sell these shares.
• Unvested RSAs: Typically, unvested RSAs are subject to repurchase by the company at the original grant price. However, some companies may not repurchase them, which could result in forfeiture.

RSUs at Termination

• Vested RSUs: Vested RSUs are yours to keep after you leave the company.
• Unvested RSUs: If you leave before RSUs vest, you forfeit the right to receive them.
  Double-Trigger Vesting: For private companies, a common practice is “double-trigger vesting,” where RSUs vest only after two conditions are met: the vesting date arrives and the company goes public. This mechanism helps address the issue of illiquidity in private companies.

Tax Implications: RSA vs RSU

RSA Tax Treatment

1. Ordinary Income Tax at Vesting: For RSAs, you are taxed at vesting based on the difference between the FMV at vesting and the price paid at the grant.
   • Example: If you bought shares for $10 each, and their FMV is $50 at vesting, your taxable gain is $40 per share.
2. Capital Gains Tax at Sale: If you sell the shares after vesting, any profit made beyond the FMV at vesting is subject to capital gains tax.
   • Example: Selling shares at $50 each when their FMV was $10 at vesting results in a taxable profit of $40 per share.
3. 83(b) Election: This election allows you to pay taxes at the time of the grant based on the FMV at that time, potentially lowering your tax burden if the stock value increases. This can be beneficial if the shares appreciate significantly before vesting.

How are RSUs taxed?

Unlike RSAs, which grant shares upfront, RSUs are a promise that your company will give you shares in the future once certain conditions are met, typically after a vesting period. This difference in timing leads to different tax implications, with RSU holders often facing a larger income tax bill at vesting.

You won’t owe any taxes when the RSUs are granted. However, once they vest, you will owe ordinary income tax on the fair market value (FMV) of the shares at that point.

At Vesting: Ordinary Income Tax on RSUs

• FMV at vesting: $10/share
• Number of RSUs vested: 50 (out of 200)
• Taxable income = 50 x $10 = $500 (subject to ordinary income tax)

To cover these taxes, your company might withhold a portion of your shares or require you to pay the amount in cash.

Once your RSUs have vested, you can sell them at any time. If you sell the shares within a year of vesting, any profit above the FMV at vesting will be subject to short-term capital gains tax, which is taxed at your ordinary income tax rate. If you wait more than a year, the profit will be taxed at the typically lower long-term capital gains rate.

At Sale: Capital Gains Tax on RSUs (after 2 years of vesting)

• FMV at sale: $15/share
• Taxable profit = $15 – $10 = $5 per share (subject to long-term capital gains tax)

Many people choose to sell their vested RSUs as soon as they receive them to avoid potential capital gains tax if the stock price changes. Others may decide to hold onto their shares after vesting, hoping the company’s stock price will increase significantly over time.

Conclusion

Restricted Stock Awards (RSA) and Restricted Stock Units (RSU) are valuable tools in the realm of equity compensation, each offering unique benefits and considerations. Understanding the differences between RSA and RSU is crucial for both employers and employees to make informed decisions about equity compensation strategies. By evaluating factors such as tax implications, employee preferences, company stage, and administrative complexity, organizations can tailor their equity compensation plans to meet their goals and incentivize their employees effectively.

Choosing the right form of equity compensation requires careful consideration and alignment with the company’s overall compensation strategy and objectives. Whether opting for RSA or RSU, the ultimate goal is to foster a strong sense of ownership, align interests with company performance, and reward employees for their contributions to the company’s success.