Automatic RSU Sales at Vesting: Costing You More in Israeli Taxes

What is “sell to cover” and why it’s a trojan horse?

In the world of Restricted Stock Units (RSUs), the mechanism known as "sell to cover" is a common practice among U.S. companies but may be hurting your Israeli taxes. This approach is designed to simplify the tax obligations for employees upon the vesting of their RSUs. Essentially, "sell to cover" involves the automatic sale of a portion of the vested shares sufficient to cover the estimated tax liability resulting from the vesting event. This process ensures that employees remain compliant with U.S. tax regulations without having to outlay cash to cover their tax dues.

However, while "sell to cover" might seem like a convenient solution in the U.S. context, it can lead to unintended and costly tax consequences for U.S. citizens with RSUs under an Israeli 102 stock plan. The automatic sale of shares not only settles U.S. tax obligations but sets in motion a chain reaction of high Israeli taxes which then requires a sale of even more shares.? A tax that may not have been needed if planned properly with the below tips.

The Challenge at Hand

When those RSUs are automatically sold, it creates an Israeli tax under the 102 plan which can be as high as 50% instead of the beneficial 28% capital gain rates.? This is due to how 102 plans work.? In Israel, the sale of shares obtained through RSUs is subject to tax, but the critical factor is the timing of the sale:

• Within Two Years:?If shares are sold within two years of the grant date, the proceeds are taxed as ordinary income, which can be as high as 50%.
• After Two Years:?Holding the shares for more than two years significantly changes the tax treatment, allowing for a more favorable capital gains tax rate of 28% on any growth from grant.

The automatic sale of shares to cover U.S. taxes can thus trigger an immediate and high tax liability in Israel, contrary to the taxpayer's intentions or desires to reduce tax liability.? Below is three ways to solve this challenge.

Strategic Solutions

1.???? Negotiate With Your Employer:?Engage with your HR or payroll department to explore alternatives to the automatic sale of shares. Some companies may offer the option to cover the estimated U.S. tax liability in cash, allowing you to retain your shares and decide the most tax-efficient time to sell.? While this may be a solution for some, you probably don’t want to lay out the cash yourself.? Additionally, this doesn’t solve the overall issue of having double taxes on your RSUs between the two countries.

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2.???? Utilize Foreign Tax Credits:?Work with a tax professional specialized in this area to ensure that your U.S. tax filings are optimized to claim foreign tax credits for taxes paid in Israel. This can offset some of the U.S. tax liabilities and reduce the need for automatic share sales.? However sometimes the value of RSUs can be so high that even after maximizing tax credits, you may still need to sell some shares to cover taxes.? In this case, instead of just selling to cover the US tax, there is a better option.? Enter number 3 below.

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3.???? Tax Planning and Timing:?Work with a tax professional to develop a strategy that aligns with both U.S. and Israeli tax laws. This might involve calculating the precise number of shares you need to sell to create the right amount of Israeli taxes to cover your U.S. tax on the vesting.? Unlike “sell to cover” which works backwards without taking into account the Israeli taxes, this reshapes the plan to have Israeli tax in mind first.? Figure out how much you need from Israeli taxes to cover your US tax and only sell those shares.

Need Expert Guidance? Were Here to Help

Navigating the intricate tax implications of "sell to cover" strategies for RSUs can be daunting, especially for U.S. citizens in Israel or Israelis planning to relocate to the U.S.

With over 45 years of expertise in this specialized area, our firm is adept at working with you to create calculations you can understand and take control of to reduce your double tax exposure and get the most from your equity grants.

Whether you're facing uncertainties about your RSU taxation, considering the best time to sell, or simply seeking to maximize your financial outcomes while minimizing tax liabilities, we're here to provide the tailored support and guidance you need. Private message me to get in touch.