Providing financial analysis services to divorcing couples in the Bay Area means that many, if not all of the clients, have at least one party receiving stock as part of their compensation plans. This stock ranges from stock options issued in private companies to RSUs and even GSUs (yes, Google has their own acronym). One of the most fought over parts of the settlement agreement is the ongoing level of marital support. In the Bay Area, it isn’t uncommon to have one party in the marriage earning far in excess of the other party. This person is inevitably the payor. If you look at recent W-2s, paystubs and income tax returns, you are going to see many of these persons seeing a huge rise in their payroll over the past few years, often to levels never thought possible. Everyone wants their piece of the pie but look under the hood and we have potential problems afoot.
Stock based compensation often has a vesting period. Whether that is stock options or RSUs, the employee has to work, often for a period of four years, to fully achieve and earn the total compensation awarded. Over that vesting period, the value of that stock can change such that when the shares are actually vested and distributed, the actual value when distributed may be many multiples of what those shares were worth when awarded long ago. This is not compensation earned and will continue to be earned (e.g. salary). Instead, it is the simple fact that the company’s stock price skyrocketed over the past few years.
Let’s look at an example. Spouse A is awarded a bonus of $100,000 in January 2020 in Company X stock. Company X stock was priced at $20/share in January 2020 so Spouse A was awarded 5,000 shares to vest every six months (625 shares) over the next four years (1,250 in 2020, 1,250 in 2021, 1,250 in 2022 and 1,250 in 2023). By the time 625 shares vest in January 2022, Company X stock price is now trading at $60. Those 625 shares, worth $12,500 when awarded, are now worth $37,500. That value shows up on the W-2 in the single wage bucket and on the paystub in its own separate category (usually). Did the employee do anything to earn that extra $25,000 over those 2 years? No. Will the employee continue to earn those excess earnings every time stock vests? Who knows. What happens to the stock price over the next six months, one year, longer?
Many employees receive a share grant every year so many employees may have four or more grants vesting at any one point in time. Now back to our divorcing couple and we have to introduce the Date of Separation and there is now a difference between Community Property and Separate Property. The payor cares about Separate as the payor may be on the hook for a Smith-Ostler payout on Separate Property (but not Community). Welcome to the intricacies of the Nelson / Hugg calculation. And the difficult conversations that are starting to occur as the stock market corrects and future earnings from shares come in below plan… maybe a lot below plan. That fantastically high W-2 that has been growing so fast over the past few years may be about to decline, fast. Remember that stocks go up and down. Which means it is conceivable that a $100,000 bonus awarded in December 2021 might not even be worth half that much when it finally vests over the next years. Tough conversations but ones that need to be had.
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