Should You Update Your RSU Withholding Tax Mid-Year?

Restricted Stock Units (RSUs) can be a valuable component of your overall compensation package. However, understanding and navigating the complexities of RSU taxation can be challenging, especially if you’re new to equity compensation.

One of the most difficult aspects of managing RSUs is selecting the appropriate withholding rate to cover the associated tax liability when they vest. If you withhold too little throughout the year, you may face a large, unexpected tax bill during tax season.

To minimize this risk, many companies offer two month-long windows for their employees to adjust their withholding rate—one in June and one in December. While updating your RSU withholding tax can be beneficial, there are also drawbacks to consider. In this blog post, we’ll explore the pros, cons, and key factors to keep in mind when deciding whether to update your RSU withholding tax mid-year, helping you make an informed decision.

Understanding RSU Withholding Taxes

When RSUs vest, the IRS treats them as supplemental income and withholds taxes to offset federal and payroll (Social Security and Medicare) tax obligations. Depending on your state of residence, you may also need to withhold taxes at the state level.

As of 2024, the IRS withholding rate for supplemental income is a flat 22%. However, if your total compensation exceeds $1 million, the withholding rate increases to 37%. Unless you elect a different withholding rate, most employers will withhold the default rate (either 22% or 37%) from your vested RSUs.

It’s important to note that your actual tax liability may be higher or lower than this default withholding rate, depending on your total taxable income for the year and other factors. Adjusting your withholding rate mid-year can help minimize the discrepancy between your withheld taxes and your actual tax liability, reducing the amount you owe or are owed when you file your tax return.

Why Update Your RSU Withholding Tax Mid-Year?

There are several reasons to consider updating your Restricted Stock Unit (RSU) withholding tax mid-year:

#1: Changes in Income

Mid-year changes in your income, such as a raise, bonus, or a change in employment, can affect your overall tax bracket. If you receive a significant pay increase, your initial RSU withholding might not adequately cover your tax liability, leading to a larger tax bill when you file your tax return. Adjusting your withholding mid-year can help ensure you’re withholding the appropriate amount and avoid surprises during tax season.

#2: RSU Vesting Schedule

RSUs typically vest on a predetermined schedule. If a large portion of your RSUs is set to vest mid-year, it could substantially increase your taxable income.

Adjusting your withholding before they vest can help manage the additional tax liability more effectively. This proactive approach helps ensure you aren’t left with a significant underpayment at the end of the year.

#3: Tax Law Changes

Tax laws can change, so it’s important to stay informed about any new regulations that might impact your RSU withholding. For instance, changes in federal or state tax rates, or alterations in tax credits and deductions, could affect your overall tax obligation. Regularly reviewing your withholding can help you remain compliant with current tax laws and optimize your tax situation.

#4: Life Events

Significant life events such as marriage, the birth of a child, or purchasing a home can alter your tax situation. These events often change your filing status or eligibility for certain deductions and credits. By updating your RSU withholding, you can account for these changes and better align your tax payments with your new financial reality.

#5: Avoiding Penalties

If you don’t withhold enough tax throughout the year, you might face underpayment penalties from the IRS. As of 2024, the penalty for underpaying your taxes is 8% per year, compounded daily. Adjusting your RSU withholding mid-year can help you avoid costly penalties by ensuring you’re meeting your tax obligations as your financial situation evolves.

Benefits and Drawbacks of Updating Your RSU Withholding Tax Mid-Year

One of the primary benefits of updating your RSU withholding tax in June is more accurate tax withholding throughout the year.

By withholding the right amount of tax, you can avoid over-withholding and having too much money tied up with the IRS, which you could otherwise use for investing, saving, or covering day-to-day expenses. Conversely, ensuring you aren’t under-withholding helps you avoid a large tax bill that might strain your finances when taxes are due.

However, there are also some potential drawbacks to consider. One of the main disadvantages is the increased complexity in tax planning.

When you adjust your withholding rate, you’ll need to take into account various factors, such as your projected income for the year, any changes in your tax deductions or credits, and the timing of your RSU vesting. This can make tax planning more challenging and time-consuming, especially if you aren’t well-versed in tax laws and regulations.

Another potential downside is the possibility of overcorrecting and withholding more taxes than necessary. While this can result in a larger tax refund, it also means you’ll have fewer resources throughout the year, which can be problematic if you’re relying on your RSU income to cover specific expenses.

Lastly, if you decrease your withholding rate too much or fail to account for all your taxable income, you may find yourself owing a significant amount of taxes at the end of the year. This can be a costly mistake, as you may be subject to underpayment penalties and interest charges.

How to Update Your RSU Withholding Tax

Once you’ve decided that updating your RSU withholding tax in June is the right move for you, the process is relatively straightforward.

First, keep an eye out for communications from your human resources (HR) or payroll department. They will guide you through the specific procedures and requirements for adjusting your withholding rate and provide you with any necessary forms or documentation to properly implement the change.

In most cases, you’ll need to submit an updated Form W-4, which is the federal tax withholding form. Depending on your employer’s requirements, you may need to complete additional sections of this form or provide supplementary documentation to update your RSU withholding tax.

After submitting the necessary documentation, it’s crucial to monitor your paystubs for the next few pay periods. This will allow you to confirm that your new withholding rate is being applied correctly and that the appropriate amount of taxes is being withheld from your RSU income.

Keep in mind if you choose to adjust your rate in June, the new rate applies to any RSUs that vest during the second half of the year (July 1^st through December 31^st). It’s also important to note that this updated withholding rate applies only to your RSUs and not to your regular paycheck, which could include base salary and a target cash bonus.

If you notice any discrepancies or have questions about your withholding, don’t hesitate to reach out to your HR or payroll department for assistance.

Alternatives to Updating Your RSU Withholding Tax Mid-Year

Although an increasing number of companies offer their employees the option to update their RSU withholding tax mid-year—for example, Google, Salesforce, and HubSpot—not all employers provide this benefit. If your employer doesn’t allow you to update your RSU withholding tax in June, or if you choose not to do so, there are alternative strategies you can use to minimize the risk of overpaying or underpaying taxes.

• Quarterly Estimated Payments. If you expect to owe more than $1,000 in taxes after subtracting your withholding and refundable credits, you can make quarterly estimated tax payments directly to the IRS. This approach can help you avoid underpayment penalties and ensure you’re paying enough taxes throughout the year.
• Adjusting Your W-4 Withholding for Salary/Bonus. Another option is to adjust your W-4 withholding for your regular salary or bonus payments. By increasing your withholding on these income sources, you can offset the potential tax liability from your RSUs and minimize the risk of underpaying taxes.

By understanding these alternative strategies and working with a knowledgeable financial professional, you can effectively manage your RSU tax obligations.

Let Simplicity Wealth Management Help You Navigate the Complexities of Managing RSU Withholding Tax

Updating your RSU withholding tax mid-year can offer several advantages, such as more accurate tax withholding, a lower risk of facing a large tax bill, and better cash flow management. However, it’s crucial to consider the potential costs in light of your compensation structure, individual tax situation, and financial goals. For instance, if RSUs make up only a small portion of your total compensation, updating your withholding RSU tax mid-year might not make a significant impact on your overall tax liability.

Simplicity Wealth Management has experience helping clients from several employers in the tech space, including Google, Meta, and HubSpot, navigate the complexities of managing RSUs. We can provide personalized guidance and recommendations to ensure you’re effectively managing your equity compensation and the associated taxes. To learn more and start your financial planning journey, we invite you to book a complimentary Simplicity Session.

Are you a Googler or Meta employee looking to learn more about RSU withholding taxes? Check out these blog posts for information specific to your employer:

Managing GSU Withholding Tax: A Guide for Googlers

Managing RSU Withholding Tax: A Guide for Meta Employees