Snowflake IPO and Your RSUs
Restricted Stock Units represent Snowflake stock that will be given to you – but with strings attached. You must work at Snowflake for a specified period before the shares of stock are paid to you. Your vesting schedule defines how much time must elapse before your SNOW shares appear in Fidelity.
As an illustration, let’s say you’re granted 1,200 RSUs in March 2020. You wouldn’t have seen 1,200 Snowflake stocks in your Fidelity account in March 2020, however, because: (1) you’re subject to a vesting schedule, and (2) Snowflake would have to be a public company (which wasn’t the case in March 2020). Let’s focus on the former, the vesting schedule.
There are three types of vesting schedules:
- Cliff vesting: after a certain amount of time has elapsed, you receive 100% of the shares. With a 4-year cliff vesting schedule, you’d receive all 1,200 stocks in March 2025.
- Graded vesting: you receive smaller chunks of shares at a regular frequency. With a 4-year graded vesting schedule, you’d receive 400 shares of stock every March 2022-25.
- Hybrid of cliff and graded vesting: this is the most common. For example, your grant agreement might specify 300 shares vest in March 2022 (25%), and then 25 shares each month thereafter (e.g., 1/48th per month).
Check your grant agreement to see your vesting schedule.
Value of Your RSUs
When you’re granted RSUs, calculate the value of your grant by multiplying the number of unvested RSUs and the current stock price. For example:
- Quantity: 1,200 RSUs
- Grant date: 3/1/2020
- Vesting schedule: 25% after one year (3/1/2022), then 1/48th monthly thereafter
- Date of analysis: 12/18/2020 (stock price: $334)
- Value of unvested RSUs: $400,800 (before taxes)
RSUs will always have value. This is true even if the stock price drops below $334.
What to Expect Starting in March 2021
I previously described the two-part lockup for Snowflake. The December window is about to close. After 12/31/2020, you will not be allowed to sell Snowflake stocks until March 2021 when Snowflake’s lockup completely comes off.
Let’s assume the lockup comes off on 3/1/2021 as we discuss tax implications.
There are two general categories of taxes for RSUs:
- You pay income and payroll taxes on the value of the RSUs at vest.
- You pay capital gains taxes when you sell the shares resulting from the vested RSUs.
|At Grant||At Vest||At Sale|
|Taxes on RSUs||N/A||
At Vest: Income and Payroll Taxes
As soon as your RSUs vest, the IRS and California FTB ring up your tax bill. They base the tax bill on the market value of the shares at vesting.
Let’s say 300 RSUs vest on March 1, 2021, and the stock price on that date is $300. The value of the 300 shares you earned is $90,000 (300*$300). The IRS and California FTB view this $90,000 as compensation income, even if you don’t sell the stocks.
You must pay taxes immediately upon vest. Snowflake will sell a portion of the shares on your behalf to cover these taxes.
Calculation of Taxes Withheld
RSUs are a type of income called “supplemental wages,” which are taxed at flat rates defined by the IRS and California FTB:
- Federal: 22%
- California: 10.23%
- Social Security: 6.2%
- Medicare: 1.45%
- Additional Medicare Tax: 0.9%
- California disability: 1.2% in 2021
In other words, although you earned 300 SNOW shares on March 1, 2021, you won’t see 300 stocks in Fidelity. Instead, you’ll net ~180 shares after taxes.
This pattern will repeat every time your RSUs vest every month or quarter thereafter.
Watch Out: Taxes Withheld May Not Be Enough!
For very high earners, including those with significant RSU income, the flat tax rates above may not cover your full tax bill. You may owe additional federal income taxes next April 15th. In some cases, you may need to pay additional taxes throughout the calendar year (“estimated tax payments”) rather than waiting until next April 15th.
Consult with a financial planner or tax professional.
At Sale of the Shares: Capital Gains Taxes
Your net RSU shares will be deposited to Fidelity. When you eventually sell the shares, you must pay a separate set of federal taxes known as capital gains tax. Capital gains are the profit if your sale price is greater than the vesting date’s stock price. Capital gains may be short-term (the stocks were held one year or less) or long-term (held more than one year).
Federal short-term capital gains are taxed at regular income tax rates. Federal long-term capital gains are taxed at a special, lower rate ranging from 15% to 23.8%
Some states, including California, levy capital gains tax. California doesn’t have a lower tax rate for long-term capital gains.
Your company will not withhold capital gains taxes for you. If you sold the shares shortly after vest, the capital gain will be minimal. But if you held onto the shares and the stock price has grown significantly, you may need to pay estimated taxes.
Again, consult with a financial planner or tax professional to see whether you should pay estimated taxes now, or wait until the April 15th deadline.
Keep Some, All, or None of Your Snowflake Stock?
Consider Selling Some Shares for Taxes
Remember that the taxes withheld when your 300 RSUs vest may not be enough. Your first step is to determine whether you will owe additional taxes next April 15th. If you owe more, your next steps would be to: (1) decide whether to sell a portion of the ~180 net shares, and (2) decide when to pay the incremental taxes owed.
Once taxes are covered, here are the top two comments that I hear from clients and prospects:
I Want to Keep my Shares Because I Believe in my Company’s Prospects
I wrote about insider optimism syndrome in a previous blog. I also wrote about the risks of keeping your shares. See the “What I Recommend to Clients” section below for how I approach this comment with clients.
I Want to Keep my Shares for at Least One Year to “Save on Taxes”
It’s true that when you sell an investment after at least one year, long-term capital gains are taxed at a lower rate. But remember that there are two sets of taxes for RSUs:
- You pay taxes on the value of the RSUs at vest (income and payroll taxes).
- You pay taxes again when you sell the shares resulting from the vested RSUs (capital gains taxes).
Clients often focus on capital gains taxes. Don’t forget the first set of taxes: you’ve already incurred income and payroll taxes based on the stock’s value at vesting.
What I Recommend to Clients
I reframe the issue as follows, particularly when addressing insider optimism syndrome: “If Snowflake paid you $90,000 bonus, would you use this money to purchase company stock?” Most clients quickly answer, “No, I’d keep the cash.”
If you answered “No,” then you should think of the RSU payment as a bonus that happened to be paid in shares rather than cash. In other words, sell all the shares immediately.
I also have clients’ goals and values determine whether to sell, and what they want to do with the cash proceeds. It likely will be much easier to sell your RSU and ISO shares if you have a clear use for the cash. A financial planner can provide context by helping you articulate your goals, and running a long-term financial projection to compare:
- What you want to achieve (take a sabbatical, downshift to a less stressful job, buy a house, pay tuition, support struggling parents, etc), and
- What you have (e.g., your current and future savings)
For most of my clients, the long-term projection shows that they can achieve their goals if they sell all the shares. In the words of William Bernstein, “If you’ve won the game, stop playing.” Sell the shares, and deploy the cash for your short-term and long-term goals.
To learn more about the Snowflake IPO, here are all of the posts in this series:
- Blessings (and Burdens) of a Financial Windfall
- Donating Snowflake Stock: Help Charities, and Benefit Financially
- Snowflake Incentive Stock Options
- Snowflake’s Lock-up is Ending: Prepare for an Emotional Roller Coaster
- Snowflake RSUs
- Which Financial Professional Should You Hire?
- Prepare for the Full Release in March 2021