Many employees of large publicly-traded companies end up with a significant amount of stock in their company, resulting in a concentrated stock position. While seeing a big gain in your stock account can be exciting, it is important to consider the risks and tax implications associated with holding a large amount of stock. This article discusses various options for reducing risk and unwinding a concentrated stock position that has significantly increased.
For individuals with less than $100,000 in total company stock, options may be limited as many investment vehicles are designed for larger sums of money. Long-term capital gains on stocks held for over a year are taxed at a lower rate than regular income, so it is important to refer to tax tables to calculate potential taxes owed on a sale. Specialized tax strategies may be necessary for individuals with higher incomes and significant capital gains.
One option for reducing risk and unwinding a concentrated stock position is to sell the stocks outright and invest in a diversified portfolio. This may result in an immediate tax hit on all gains but can help reduce overall portfolio risk. Working with a tax advisor to sell portions of the stock over several years may help mitigate taxes, although the portfolio risk remains higher than in a diversified portfolio.
Direct indexing is another strategy that involves purchasing individual stocks to mirror an index, allowing for tax loss harvesting. By selling losing stocks and replacing them with similar ones, investors can use the losses harvested to offset capital gains from selling their concentrated stock position. This strategy requires some sidelined cash or a portion of the concentrated stock to sell initially.
Securities lending is a strategy where investors take out a line of credit against their existing positions to invest in a diversified strategy like direct indexing. Borrowing against securities can provide tax benefits, as the interest paid is tax-deductible. However, there are risks involved, such as margin calls if the stock value drops significantly or if loan interest rates exceed the rate of return.
Other options for reducing portfolio risk and taxation include using stock options, exchange funds, and involving trusts. Stock options can generate income and reduce risk, while exchange funds allow investors to pool their stock with others over seven years without selling upfront. Charitable Remainder Trusts can provide immediate tax benefits, generate income, and allow for portfolio diversification while benefiting charity upon the investor’s death.
In conclusion, individuals with concentrated stock positions should carefully consider their financial goals and priorities when selecting a strategy to reduce risk and manage taxation. Consulting with a qualified financial and tax professional is essential to determine the best approach for each individual’s unique circumstances. This article serves as educational information and does not constitute tax or financial advice, and individualized guidance from a professional is recommended.
