Your Company Stock Has Been Good to You. When Should You Diversify?
Do you ever wonder if you have too much of your nest egg in employer stock? Maybe you’ve known it for a while, but the tax bill feels daunting, or the stock keeps performing well, so there’s always a reason to wait one more year. Recent years have seen strong U.S. stock market performance, and more people are finding themselves in this position every day.
There’s an old saying in financial planning: “concentrate to get rich, diversify to stay rich.” If you’ve spent the better part of a career building wealth through your employer’s stock plan, you’ve already done the first part. Today, let’s talk about the second.
How Much Employer Stock Is Too Much?
Financial professionals often treat concentration as a clear-cut problem, but it’s much more nuanced than that. The right amount of employer stock depends on your full financial picture, including how close you are to retirement, your other assets, your income needs and other financial goals, and your risk tolerance. Some advisors use concentration guidelines when evaluating portfolio risk, but appropriate levels vary significantly based on an individual’s circumstances, objectives, risk tolerance, and overall financial plan.
The Hidden Risk of Betting on One Company
However, don’t overlook the fact that your paycheck, benefits, bonuses, and retirement savings all depend on the same company’s fortunes, something you have little to no control over. Most people wouldn’t consciously choose that concentration of risk, but many end up with it anyway. A bad few quarters is one thing, but a bad few years could hit all of it at once.
Why So Many People Wait
So, if people understand this risk, why won’t more act on it? Three reasons tend to come up most often:
- The tax bill feels like punishment for doing something right.
- The stock keeps performing well, so there’s no sense of urgency.
- Loyalty to the company that built your career holds you back.
All three of these feelings are understandable. These hesitations are both financial and emotional, and in some ways, it feels like a lose-lose-lose situation. What people often miss: only about 20% of all listed stocks survived and outperformed the market over rolling 20-year periods, according to Dimensional Research. If your retirement banks on the continued success of one company, the odds aren’t in your favor.
Tax-Efficient Ways to Diversify
The good news: tax-efficient ways to diversify exist that most employees don’t know about. The right approach depends on how you hold your stock. Employer stock inside a 401(k) opens the door to a strategy called Net Unrealized Appreciation (NUA), which may, in certain circumstances, provide more favorable tax treatment than a traditional rollover. Stock held in a taxable account, such as restricted stock units (RSUs), employee stock purchase plan (ESPP) shares, or non-qualified stock options (NQSOs) and incentive stock options (ISOs), carries its own set of strategies for reducing tax drag as you move toward a more diversified portfolio. If you’re not sure how your equity compensation is taxed to begin with, these Savant articles are a good starting point: An Introduction to Restricted Stock and RSUs and Non-Qualified Stock Options: Basic Features and Taxation.
If this position has been the financial foundation of your retirement, it deserves more than a plan to “figure it out someday.” At Savant, we’ve helped clients navigate these situations for many years, integrating these decisions into their overall financial plans. If you’d like to discuss how to incorporate your employer stock into a plan that supports your goals now and in the future, contact us for a complimentary consultation.
This is intended for informational purposes only. You should not assume that any discussion or information contained in this document serves as the receipt of, or as a substitute for, personalized investment or tax advice from Savant. Please consult your investment or tax professional regarding your unique situation.
Noah J. Gay
Financial Advisor
CFP®