Introduction
Divorces may be an emotional maze and dividing assets only complicates matters. So then how would this work with something like RSUs? These are essentially parts of tools an employer uses for employee compensation and which greatly complicates how splitting up a married couple’s property would work. Being vested over time and RSUs are usually hidden or undervalued and yet it is one of the burning points in a case of divorce.
This essay will dig deep and bring to light the complexities of RSUs in the context of divorce from explaining the workings of RSUs and various means to fairly allocate them to exploring the legal landscape of deciding the marital portion of RSUs and the tax implications that come into play in a dividing scenario. We conclude by offering recommendations to the two spouses in their interest to ensure transparency and guarantee interest protection for both parties from a financial point of view in a divorce.
About Restricted Stock Units
Restricted stock units form part of the several forms of equity compensation one can work for in a company. Since they only stand for a promise to give an employee shares of a company stock on some future date and many times there’s the attachment to a condition. The operational mechanism then is as follows
Grant
This is where a company tends to give an employee a specific number of RSUs. This can be an active event or a recurring event and say vectored or tenured one.
Vesting Schedule
The RSUs have a vesting schedule which determines the time over which an employee gains ownership to the share being offered. The vesting period is normally over a span of 2 to 4 years it can also hold cliffs and by which a fixed part of the RSUs will vest over the schedule. For example an employee could be granted 100 RSUs that vest over four years with a 25 percent cliff each year. That is to say they do not own any shares until the first anniversary of receiving the grant (25 RSUs) and then and on every anniversary thereafter and come into the ownership of another batch of 25 shares restricted stock units.
Performance rights
Until RSUs vest and they represent solely a promise and do not really mean anything. Before vesting time is over and an employee does not actually get any shares. However and the period of time they take to vest keeps the employee from controlling the stock price. When RSUs vest legally it makes the employee the owner of the underlying shares. The employing company’s stock price at the time of vesting determines the value of such shares.
Here’s a metaphor that might help
RSUs are like a company. You’re going to be given a key that comes at predetermined times so you can unlock the pigeonhole and claim as your own the stock that is contained in it. The value of your firm’s stock and therefore and will be directly related to the success of the company’s successful company and valuable stock in your pigeonhole.
RSUs are granted and not purchased. No money is needed to be paid out during the grant by an employee receiving RSU and unlike in the case of stock options.
The value of RSU becomes more significant and smaller through the fluctuation of the company stock price.
The most critical thing that one may need to understand is RSU’s vesting schedule and especially in the scenario of divorce where the value and ownership of RSUs are not easy matters to be divided.
How can RSUs complicate issues
Vesting Schedules and Uncertain Value
Unlike easily realizable assets like cash or property RSUs generally have a vesting schedule that spreads over time. In the event of a divorce and this is a source of uncertainty.
The value of the stock underlying the RSUs can fluctuate vastly from the time they are granted to the time they actually vest. This makes it such that the value of the spouse’s actual interest in the RSUs may be uncertain at the time of the divorce settlement.
Potential for Hiding or Misreporting
RSUs are not outright saleable assets like a house or a car. This obscurity of the asset proves to be a temptation for the spouse who has to hide a certain part of his asset.
But in the context of RSUs there can also be a misunderstanding between the spouses due to the complex vesting schedules and stock valuation. Such a misunderstanding can arise where one of the spouses cannot understand the potential value of the RSUs and which may finally result in no division or unequal division.
Tax Consequences
Adding RSUs brings in tax implications. Like most forms of compensation and when RSUs vest and the employee is typically taxed on the ordinary income value of the stock. That tax burden can complicate things and the recipient of the RSUs might end up with a smaller net value post tax.
The Issue of Deciding on an Equitable Split
The reconciliation of RSU creates challenges because of the vesting schedule and the stock price changes.
The non employee spouse will receive a share at the time when the vested RSUs separation are divided and or in the future when the balance will become vested this may take a couple of years. How would you account for the fluctuation in the stock price from the date of the trigger to the date of balance when the property is divided?
The ambiguity in the value of RSUs and the complexities associated with their division can only add to the emotional turmoil that the divorce process creates. Not agreeing on determining the value or the equity of division can further complicate already thorny relations between the spouses.
Those typical characteristics which include vesting schedules and fluctuating value and tax considerations make RSUs a rarity in not being the cause of disagreements and complications in most divorce cases. You would need to be transparent about the RSUs you hold and seek professional advice and ensure this complex asset is divided fairly and wisely.
Determining the marital estate?
Vesting Period and Marital Period
Courts typically view the portion of RSUs vesting during marriage as part of the marital estate and since the income was earned during marriage and accrued to the benefit of both parties.
The Hunt Formula
The Hunt formula is another method commonly applied to determine the share of marital property. This determines the marital share through its use in the vesting schedule. This is how it is calculated
The months vested during the marriage are divided by the total months on the vesting schedule.
This translates the result into a decimal that shows the share of the marital property of the entire RSU award.
Important Considerations
The Hunt formula is just a starting point. Courts might factor in other considerations in an individual case.
Exercise value. RSUs granted pre marriage but vesting post marriage are trickier. A slice of an RSU might be considered separate property (of the employee spouse) because of the grant post marriage.
In contrast if RSUs were granted during marriage but not vested until after the divorce and then it is possible that they do have marital value.
Professional Help
It is best that both the divorcing spouses go for the services of a good divorce attorney and a financial counselor in the division of RSUs and considering the disputes at hand. The professionals may assist in the negotiations to divide RSUs and determine the best calculational method and and decide on prospective tax issues.
By understanding the formula of Hunt and factors affecting the marital portion of the RSUs and spouses going through a divorce may pursue better and fair division of the complex asset.
How to divide RSUs?
Dividing RSUs in a divorce settlement may prove to be quite demanding since they have some special characteristics. Following are ways the couples could undertake their division
Buyout
In a buyout the spouse holding the RSUs retains the stock and reimburses the other spouse the marital portion of the value.
This method lets out a clear separation and prevents the non employee spouse from any further involvement in the management or the expected future risks of the stock.
See how it could work
The value of the vested RSUs is determined by some fair market value methodology – e.g. average closing price over some period.
Marital
The marital share of the RSUs is usually calculated based on the vesting schedule and length of the marriage using a formula commonly referred to as the Hunt formula.
The RSU holding spouse will transfer to the other spouse their pro rata share of the vested and marital share in a lump sum payment of cash and other assets and or a combination thereof.
Buy out Considerations
Capitalize
Spousal buyout of the RSUs and the purchasing spouse must have sufficient liquid assets on hand to compensate for the other spouse’s share.
This also might not be a beneficial method if the stock price is really volatile and wherein it can make the purchasing spouse eventually pay more than the stock value.
Deferred Distribution
In a deferred distribution the non employee spouse is allocated their portion of the vested RSUs withholdings placed on them and often with adjustments for tax consequences.
Here is an example of how it may very well look when applied
The court enters a Qualified Domestic Relations Order which instructs the employer to make a designated assignment of a specified number of shares of the vested RSUs to the non employee spouse and also as vested RSUs.
With this old stock method and should the stock price indeed increase over time and the non employee spouse stands to gain an advantage.
Factors to Consider with Deferred Distribution
The vesting schedule is long term and it would be years before the non employee spouse can receive the entirety of what would constitute their share.
With this comes the taxation implications as the taxes of the RSUs that were received would have to be settled by the non employee spouse.
In Kind Division Less Popular
Very occasionally and the company will allow it and both the spouses agree to directly apportion the vested RSUs between the spouses.
This method usually requires employer co operation and will definitely not apply to most of the companies.
How to go About it
How best to divide the RSUs will vary depending on
All the above conditions hold good for selecting the vesting schedule and
Financial conditions of both spouses and
Expected span of the vesting schedule and and
Volatility in the stock price of the company.
Risk tolerance of both spouses
Of course and discussing the matter with a financial advisor and a divorce attorney will help to understand the implications of each of the methods and which one will work in the best possible direction with the couple’s special conditions.
Conclusion
In conclusion RSUs are a special problem within a marital case because of the times they vest and the inherent fluctuating value and not to mention the tax consequences upon vesting. Such a measure of complexity can comfortably be handled by gaining more insight into the issue at hand and implementing the above recommendations. This is important for transparency and real communication about it and seeking professional guidance from legal and finance experts in order to arrive at a fair and informed settlement. Remember and a non stressful RSU division plan secures the financial interests of both parties and allows them a soft landing into the next chapter of their lives.
