Comparing RSU vs ESOP vs SAR: Key Differences and Benefits

  • Written Written by Team Equity 01 February 2023 | 4 min read
  • Editor's Note :

    This article provides an overview of RSUs, ESOPs, and SARs are complex equity compensation options with unique advantages and disadvantages.

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All three of them are forms of equity compensation where employees receive benefits in the form of equity/stocks/shares/increase in shares. Though we’ll explore all of them in detail, the short answer is that with RSUs employees receive a specific number of company stocks as a grant, with ESOPs employees receive options where they can exercise their right to have company equity, and SARs provide employees with the right to receive the increase in the company's stock value between the grant date and exercise date.

Now let’s explore all three of them in detail.

Restricted Stock Units (RSUs)

A restricted stock unit is a type of employee remuneration in which the employee receives company shares that must be vested over time. RSUs provide employees a stake in the company but no cash value until the stock vests. When RSUs vest, they are given a fair market value. Once they've vested, they're considered income, and a portion of the shares is withheld to pay taxes. The remaining shares are given to the employee, who can sell them at their leisure.

Advantages Of RSUs:

Employees are rewarded with RSUs if they stay with a company for a long time and help it effectively, resulting in a rise in the value of their shares. If an employee decides to keep their shares until they have received their full vested allocation and the company's stock rises in value, the employee receives the capital gain less the value of the shares withheld for income taxes and the amount owed in capital gains taxes. Because there are no physical shares to maintain and record, employers' administrative expenditures are low. RSUs also allow a company to postpone issuing shares until the vesting schedule is completed, which helps to reduce dilution.

Disadvantages Of RSUs::

As because no actual shares are allocated, RSUs do not offer dividends. 6 However, an employer may pay dividend equivalents, which can be deposited in an escrow account to assist in offsetting taxes or reinvesting in the form of new stock purchases. For tax purposes, restricted stock is recognized when the shares become transferable.

Employee stock ownership plan (ESOP)

An ESOP (Employee Stock Ownership Plan) is a type of employee benefit plan that gives employees a share of the company's ownership. Employee stock ownership plans come in the form of direct stock, profit-sharing plans, or bonuses, and the employer has sole discretion over who is eligible to participate. Employee stock ownership plans, on the other hand, are simply options that can be purchased at a set price before the exercise date. The Companies Norms establish the rules and restrictions that firms must follow when awarding Employee Stock Ownership Plans to their employees.

Advantages Of ESOPs:

Employee stock ownership programs are frequently used by companies to attract and retain high-quality employees. Stocks are generally distributed in stages by organizations. For example, a corporation might give its employees shares at the end of the fiscal year as an incentive to stay with the company and get the award. Companies that provide ESOPs have long-term goals in mind. Companies want to keep their employees for a long time, but they also want to turn them into shareholders. The majority of IT firms have frightening turnover rates, and ESOPs may be able to assist them in reducing such high attrition. Stocks are offered by start-ups to recruit talent. Frequently, such organizations are cash-strapped and unable to pay competitive salaries.

ESOPs Unraveled: The Mechanics to Employee Stock Ownership Plans

ESOPs align employees with success, navigate complexity, and foster shared responsibility for business growth. Discover benefits in this insightful blog.

Disadvantages Of ESOPs:

If a company lacks the personnel to properly implement the ESOP, it may face problems and potential violations. Following the establishment of the ESOPs, the company needs adequate administration, which includes third-party administration, trustee, valuation, and legal expenditures. The owners and management of the company must be aware of the continuing costs. The ESOP scheme isn't a good fit for such a corporation if the cash flow committed to ESOPs limits the funds available for long-term reinvestment in the business. ESOPs should be avoided by enterprises that require significant extra money to continue operating.

Stock Appreciation Rights (SARs)

Employees and independent contractors might be given stock appreciation rights (SARs), which are a sort of compensation. A SAR permits you to receive the growth in value of a company's stock over a predetermined period of time if you are an employee or contractor. We can do so by cashing out your SAR or exchanging it for stock.

Advantages of Stock Appreciation Rights:

Disadvantages of Stock Appreciation Rights:

Frequently asked questions

  • RSUs: Grant of ownership of actual company shares once the restrictions are met.
  • ESOPs: If the employees exercise their options then, they get ownership based on their shares.
  • SARs: SARs do not grant ownership but provide the right to benefit from stock price appreciation.
  • RSUs: Taxes are generally due upon vesting when the shares become owned (based on FMV). Once these shares are sold, they would be taxed based on the difference amount.
  • ESOPs: They are taxed at two phases, one at the time of exercise i.e. perquisite tax as income, and at the time of sale as capital gains.
  • SARs: There are no tax consequences of any kind on either the grant date or when they are vested – but they are taxed at the time of exercise based on the difference in prices.
  • Startups: High-growth startups and young companies usually prefer ESOPs and SARs due to their simplicity and alignment with growth. SARs since they don’t have equity dilution is a very convenient option.
  • Established Companies: RSUs and SARs may also be offered to reward and retain employees.
  • RSUs: If you leave before your RSUs vest, you typically forfeit them. If they have vested, you typically keep the vested shares.
  • ESOPs: Based on the amount vested, you would be able to exercise them before or after leaving the company within a timeline, if they are not vested employee might have to forfeit them.
  • SARs: Vested SARs would result in receiving a cash payout equivalent to the appreciation in the company's stock price.
  • It is important to note that company policy plays a major role in this, the specific clause about what would happen in the case of employee resignation/termination etc. can be found in the grant letter.

Yes, it's possible to have a combination of these equity types in your compensation package, especially in larger corporations. But usually, companies offer one type of equity compensation for easier management. Or offer multiple types for different people across the organization. You should be able to discuss with the human resource and finance teams of a specific company if you want to be specific.

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