Now that you’ve sold stock in your company, careful planning is necessary to make the most of your gains so they can support your highest goals. This includes protecting your gains, wisely managing your remaining investments, and maintaining awareness of ever-changing tax and securities laws that could affect you. Here are three ways you can protect gains and use them to fuel your overall financial plan.
Be aware of potential “wash sales.”
Following the down markets of 2022, you may have chosen to sell shares at a loss for the purpose of tax-loss harvesting—claiming capital losses to offset gains with the aim of minimizing your tax obligation. One pitfall you may encounter is inadvertently running afoul of the wash-sale rule. This rule stipulates that if a taxpayer sells securities at a loss and purchases or enters an agreement to acquire “substantially identical” securities within 30 days before or after that sale, they may not immediately claim the tax loss. Instead, the loss is added to the taxpayer’s basis in the newly acquired shares. The purchase date of the original shares also carries over for the purpose of determining the holding period for long-term capital gains.
The effect of this is that the taxpayer realizes the loss only after they sell the replacement shares. Say, for example, that you purchased 1,000 shares in your company at $10 per share and sold them at $8 per share, but within 30 days of this sale you purchased 1,000 more shares of your company at $9 each.
- You would not be allowed to immediately claim the $2,000 loss to offset current-year gains.
- Instead, your tax basis in your 1,000 shares would include both the price paid for the new shares and the loss from the sale of the previous shares.
$2,000 loss + $9,000 purchase price = $11,000 tax basis
- When you sell the shares, the difference between this adjusted tax basis and the sale price will determine the taxable gain or loss. For example, if you sold the new shares for $15 each, only $4,000 of the proceeds would be subject to capital gains tax.
$15,000 sale proceeds - $11,000 tax basis= $4,000 tax basis
If you wait more than 30 days to replace shares that you sell at a loss (or purchase additional shares more than 30 days before the sale), then you can avoid the effect of this rule. Using the same scenario, a taxpayer who conducted the same trades described above more than 30 days apart from each other would be allowed to claim the $2,000 loss at the time of the original sale, but their tax basis in the replacement shares would be just $9,000, making the taxable gain on the second sale $6,000.
Sale #1: $10,000 purchase price – $8,000 sale price = $2,000 tax loss
Sale #2: $15,000 sale proceeds – $9,000 tax basis = $6,000 taxable gain
Either way, the gains come out the same, but in the second scenario, the long-term capital gains holding period would restart with the second purchase. Additionally, the two sales in the second scenario may be applied to different tax years, where they could have dramatically different impacts. This is just one of the many reasons it’s important to make tax planning an integral part of your investment strategy.
Use caution when creating 10b5-1 plans.
You may have made your recent stock sale as part of a 10b5-1 plan. If you sold a portion of your shares and don’t already have such a plan in place, you may want to create one—particularly if you regularly have access to material non-public information (MNPI) about your company. As discussed in our previous article, “What Should I Know Before Selling My Stock,” Rule 10b5-1 was established to allow a publicly traded company’s insiders to buy and sell its securities while avoiding the appearance of illegal insider trading. The rule provides that such insiders may establish a trading plan when they are not in possession of MNPI.
The SEC has been ramping up enforcement of this rule and has proposed amendments to tighten up loopholes that some investors have exploited. One recent development is the SEC and DOJ’s use of data analytics to identify potential cases of illegal insider trading via improper use of 10b5-1 plans. Their increased investigations appear to have multiple targets and involve careful scrutiny of what investors knew, when they knew it, and whether the non-public information they had access to is “material” under the law. Simply having a 10b5-1 plan is not enough to shield investors from insider trading charges.
The SEC charged Cheetah Mobile executives with insider trading after they failed to disclose a foreseen drop in advertising revenue and sold shares under a newly created 10b5-1 plan. After learning that an advertising partner was planning to change its algorithm in a way that would significantly reduce Cheetah’s revenue, the company’s CEO and CTO sold shares under a 10b5-1 plan they created while they were aware of the upcoming algorithm change and its likely impact.
To avoid any appearance of insider trading, it’s important to get professional guidance when creating a 10b5-1 plan. An experienced investment advisor can help ensure your plan conforms to the SEC’s evolving expectations and makes it clear that all your trades are above board.
Consult with a trusted advisor.
Financial Planner
Everyone loves to see gains! However, we seek to build wealth not for its own sake, but because of what it can do for us and others we care about. A fiduciary financial advisor who takes a personalized approach to financial planning will ask you about your goals, priorities, and vision for the future. From there, they can craft investment, tax, retirement, and other strategies to get you where you want to go.
Tax Advisor
When buying and selling equity in your company, professional tax planning and preparation are essential. Without a carefully guided strategy, it’s easy to end up with a much higher tax liability than necessary. Be sure that the tax advisor you choose has experience working with post-IPO employees so they’re familiar with the various tax provisions that often come into play with equity compensation.
Investment Strategist
Selling your shares is likely just the beginning of your wealth-building journey. An investment advisor who uses proven, evidence-based investment strategies can help you build a tax-efficient portfolio to support your overall financial plan.
Complete Wealth Management
A firm with a solid reputation for comprehensive wealth management is in the best position to provide the guidance you need to turn your equity compensation into your dreams for the future. WRP wealth management specializes in serving executives and employees before, during, and after the IPO process with comprehensive financial, tax, and investment planning services. Visit our free resource library or our blog to learn more about the IPO process, tax issues that employees often encounter, financial planning and investment insights, and more.
