If you’re on the leadership team of a corporation, you know that the pace of decision-making can seem pretty frantic. Each day, you need to focus on balance sheets, revenue trends, industry changes, and other factors that keep your focus on the business of running the business.
But senior leaders can get so involved in the business of the company that they may be neglecting important matters of their own personal finances. This can be especially crucial for women executives for several reasons:
- The persistent gender pay gap that hinders women business leaders from building the needed level of retirement savings since women currently earn about 84 cents for every dollar earned by their male counterparts in similar positions;
- Reduced time in the workforce due to time spent in caregiving, either for children or aging parents;
- Inequitable representation in senior leadership, with women still lagging far behind their male counterparts in C-suite representation (though incremental gains continue to occur).
These and other factors make it imperative for all corporate leaders to understand the basic outlines of their executive compensation packages, since these benefits will typically form a large portion of their ability to create and maintain the wealth necessary to provide for a secure retirement and achieve major financial goals.
The ABCs of Executive Compensation
Executive compensation may take one or more of several forms:
- Base salary and cash bonuses: These are unlikely to provide the bulk of your wealth-building opportunities, but your budgeting, saving, and spending habits here form an important basis for making the most of other opportunities.
- Incentive stock options (ISOs): These can come in both qualified (tax-advantaged) and non-qualified (NSO) form. Qualified ISOs typically incur no tax when they are granted, vested, or exercised (though you should consult with your tax expert about possible alternative minimum tax—AMT—implications). When the options are exercised and the stock is sold (assuming the appropriate holding period), gains are taxed at the long-term capital gains rate, which is typically less than the ordinary income rate. With an NSO, you pay ordinary income tax on the difference between the grant price and the price at which you exercise the option.
- Restricted stock awards (RSAs): These grant the employee immediate ownership of stock, but they must meet certain conditions before they can sell or transfer them (completion of a required period of employment or meeting certain incentive-based goals). A key decision that comes with RSAs is whether or not an IRS Section 83(b) election should be made. This election permits the holder of the RSA to pay taxes on the stock at its present value rather than the value at the time of actual receipt. If the recipient believes the value of the stock is likely to be higher at the time the RSA is received, it could be advantageous to pay the taxes now, at a lower rate.
- Restricted stock units (RSUs): These differ slightly from RSAs in a variety of ways. Notably, employees don’t receive the shares until the vesting conditions are met.
Here are important terms related to executive compensation that you should understand:
- Strike price: Also known as a “grant price” or “exercise price,” this is the fixed cost that you’ll pay per share in order to exercise your stock options and take ownership of the shares.
- Option period: This is the period of time—usually about ten years—during which you may exercise your option to purchase the stock to which your options entitle you.
- Vesting schedule: This may be either a minimum period of continuous employment or certain performance incentives required for you to take full ownership of your options.
Finally, there are some important strategic considerations that go along with executive compensation in the context of your overall financial plan:
- Concentrated position. This situation occurs when a large proportion of your wealth consists of a single asset—such as the company stock represented by the stock options and actual shares available to you as part of your stock option package. At a certain point, it may make sense for you to begin selling a portion of your stock so that you can diversify your holdings, rather than having too much exposure to the market value of a single asset. Often, experts recommend limiting your exposure to a single asset to 10% of your portfolio. A financial planning professional can help you determine which restricted stock or options you should consider selling first and assess the impact of donating some shares for philanthropic and tax purposes. You should also coordinate closely with your tax advisor, since taxation on capital gains may need to be factored into the timing of your selling and purchasing activity.
- Holding period requirements. Securities laws impose certain requirements on senior executives for the amount of time they are required to hold company stock and options. Your executive compensation plan documents will provide you with this information. You should be familiar with any restrictions on the timing and amount of shares you can sell.
As you can see, there’s a lot to consider as you build your executive compensation package into your overall financial plan. Tax optimization, portfolio construction, diversification, and other important factors all play a part in helping you make the most of the important benefits available to you.
What is your plan for your executive compensation package? What do you wish you knew more about? At Curio, we want to help you ask the right questions in order to develop a plan that is right for you. To learn more, visit our website to read our article, “Long-Term Financial Goals: With 11 Examples.”
