Equity compensation: The new retirement plan?

Stock options are rapidly becoming a common component of employee compensation plans, alongside traditional salary and bonuses, leading employees to increasingly depend on their equity compensation for retirement.

We asked David Oh, JD, LLM, head of tax and estate planning at Arta Finance, a digital family office, about the risks and benefits of employees relying on stock options for retirement, how employees can balance stock options with other retirement savings vehicles, and tax implications employers and employees should be aware of when dealing with equity compensation.

David specializes in wealth transfer and tax solutions to preserve generational family wealth, with a focus on estate planning and trust services for high-net-worth individuals.

Q: Are stock options becoming a more common component of employee compensation plans/? Is it mainly executives or is it becoming more common for employees across the board?

A: Yes, it’s becoming more common for employers to offer equity as part of a compensation plan for employees. In addition to the traditional salary and bonus, employers might try to entice and incentivize new hires with payment in the form of restricted stock units, stock options, and an employee stock purchase program (ESPP). Furthermore, employees at startup companies often take a decrease in pay when they join a new company, which may result in less money to contribute towards tax-deferred retirement accounts. In both situations, employees might rely more on their equity compensation for their retirement.

Q: Are employees becoming increasingly dependent on their equity compensation for retirement? 

A: Sometimes equity is given in lieu of traditional forms of compensation such as cash. As a result, your base salary and bonus might be reduced to account for shares you receive as part of your package. In cases like these, there is less money to allocate towards a 401(k) plan and so the equity compensation employees receive could be more relied upon for retirement.

Q: What are the risks and benefits of employees relying on stock options for retirement?

A: The benefit is that you are able to participate in the growth and success of your company. This may motivate employees at the workplace and perhaps provide additional compensation overall that might not be available at other jobs. On the other hand, the risk is that if the company does extremely well, your equity compensation might become an overly concentrated position in your portfolio and you might be subject to the volatility of your employer’s stock price. This is a good problem to have when compared to the other risk, which is your employer’s stock tanking and leaving you with a longer runway before retirement.

At Arta, we offer several options for employees to manage the potential risks of over-concentration – helping diversify through private market investing, such as venture capital private equity, private credit and private real estate, as well as providing ways to optimize public market investments seeking higher risk-adjusted returns and reduced tax burden.

Q: How can employers better educate employees about stock options for retirement?

A: It’s difficult to get a full grasp on the ins and outs of the various types of equity compensation on one try. Employers should look to offer workshops, seminars, and office hours for their employees to go over the details of their compensation and benefits on a frequent basis. They could leverage the financial institutions that they have partnered with to custody their retirement plans and equity compensation to offer these programs and written materials. Other third-party platforms like Arta Finance also offer free educational sessions for employees around topics like over-concentration or building tax-efficient strategy for employer stock holdings.

Q: Should employers prioritize a retirement plan over stock options, since more employees can benefit?

A: Retirement plans are more prevalent than equity compensation plans due to their unique tax benefits. Moreover, employees might be cautious about putting all their eggs in one basket and concentrating their wealth into their company stock. Also, not all companies are publicly traded, thus making it more difficult to issue shares in the company or finding a market to sell.

Related: Equity compensation: How to get employees to use it, like it and understand it

Q: How can employees balance stock options with other retirement savings plans?

A: It’s crucial for everyone to engage in the financial planning process. In this way, your adviser can get a grasp on all of your financial assets and allocate your assets in a way to meet your financial objectives. If your equity compensation becomes a disproportionate part of your portfolio, you might consider barbelling that risk with your other investments, or perhaps diversifying out of your employer stock in a tax-efficient manner.