Restricted Stock Award (RSA)
Introduction to Restricted Stock Awards (RSAs)
What Are Restricted Stock Awards (RSAs)?
RSAs are grants of shares in a company but with restrictions (most typically a vesting schedule over 3-7 years). Until the shares vest, the individual does not own them outright and cannot sell or transfer them.
RSAs are most commonly granted to founders. Instead of granting equity outright upon company founding, most VC-backed companies grant RSAs to founders. This provides them (i) with equity ownership and voting rights, (ii) at a near-$0 valuation, but (iii) ties their equity to a vesting schedule (ensuring long-term alignment + reduced ownership if a founder were to depart the company early)
How RSAs Work/Key Components
Number of Shares
RSA grants specify the number of shares that you vest into over time (e.g. 2,000,000 shares vesting quarterly over 4 years).
Vesting Start Date
The vesting start date is exactly as it sounds; the date the vesting begins.
For founders, the vesting date may be the incorporation date of the company, a date after that, or potentially a date before that (if work was being done prior to the incorporation)
For very early employees, the vesting start date would likely be the employee's start date.
Vesting Schedule
The vesting schedule determines when an employee receives ownership of a portion of the shares. The key sub-parts of this are: Vesting Start Date; Total Length (e.g. 4 years); Vesting Frequency (e.g. Quarterly); Cliff or No Cliff; Any Other (Less Common) Items.
IMPORTANT: Vesting schedules can (and frequently do) vary in many ways. For more information and examples see: Vesting Schedules
RSAs may have longer-than-average vesting schedules
Unlike other stock grants whose vesting schedule rarely exceeds 4 years, its not uncommon for RSAs grants to have vesting schedules lasting 4-7 years (or more). This is because RSAs are primarily granted to founders. Founders typically have a large percentage of equity ownership -- and longer vesting schedules help better align incentives for these key individuals.
Exercising/Section 83(b) Election
Nearly all RSAs allow for early exercise via an 83(b) election. This election must be made within 30 days of the grant and allows the individual to elect to pay tax on the fair market value of the shares at the grant date (instead of when the shares vest).
Founders with RSA grants almost always should elect 83(b) early exercise:
The company's value at its founding was near $0 (i.e. cost to purchase shares tiny). When a company is founded, it has a near-$0 value. As it has no products, income, assets, etc., a de minimis value (such as the cost of filing the paperwork; e.g. $1000) is reasonable. If a founder was granted 20% of the shares via RSA, the cost to purchase 100% of the shares via 83(b) would be $200.
Starts the clock for long-term capital gains. By definition, you buy shares early via an 83(b) election. As such, you start the clock for long-term capital gains as of the purchase date.
Starts the clock for QSBS. QSBS tax treatment can be very favorable, and has multiple requirements (learn more here). One of the requirements is owning stock for at least 5 years. Similar to long-term capital gains, an 83(b) election starts the clock as of the purchase date.
Avoids potentially higher taxes + phantom income in the future. If an 83(b) election is not filed for the RSAs, shares are taxed as ordinary income when they vest. The company valuation in the future will likely be much higher (i.e. higher tax bill) + shares are likely to be illiquid (i.e. creates phantom income, given taxes are owed, but shares can't be sold).
Performance-Based and Cliff Vesting
Due to the typically limited use case of RSAs (i.e. primarily for founders), performance-based vesting and cliffs are less common -- but they can exist:
A performance vesting requirement for an RSA would require that shares not vest if/until a specific performance hurdle is met (i.e. raising capital, or generating a specific amount of revenue).
A cliff feature in an RSA would modify the vesting schedule so that no RSAs will vest until a minimum amount of time is met (e.g. 1 year).
Unvested Shares
When it comes to unvested shares, RSAs have many similarities to other types of stock-comp grants, but also differ in some ways:
The key difference between an RSA and other stock comp is, in most cases, an individual with RSAs will have voting rights and be able to vote with their unvested shares.
A similarity to other stock comp is that until shares vest, the employee does not fully own them. As such, unvested shares typically cannot be sold or transferred.
Another similarity to other stock comp is that if the employee leaves the company before all shares vest, unvested shares are usually forfeited (or repurchased by the company for a nominal value if an 83(b) election was filed).
Benefits, Drawbacks, and Less Common Elements
Equity ownership and voting rights. RSAs are how founders usually receive equity ownership in the company, including voting rights on unvested shares. As such, they have a strong financial incentive to build company value.
Near $0 cost basis. RSAs are usually granted when the company is founded and the value is near-$0.
Tax benefits. An 83(b) election filed when an RSA is granted typically costs a minimal amount of money but starts the clock for long-term capital gains and QSBS tax treatment (if applicable).
Tax Implications of RSAs
RSAs are almost always early exercised via 83(b). Early exercising a RSA grant almost always makes sense for a founder (as noted here). This typically involves minimal out-of-pocket cost, avoids future ordinary income tax and phantom income, and starts the clock for long-term capital gains and QSBS.
If an 83(b) election is not filed, RSAs are taxed as ordinary income when they vest. When RSA shares vest, if they haven't been pre-purchased via 83(b) then the vesting shares * the FMV is taxed as ordinary income (and also subject to withholding). To learn more about RSA taxation see: RSA Taxation
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