RSUs and ISOs: The Two Tax Problems Equity Compensation Creates, and How to Plan for Them
Equity compensation is taxed on a schedule your employer sets, not one you choose. Shares vest, options become exercisable, and the tax consequences land whether or not you were watching. For most of the tech and corporate employees we work with, two problems account for nearly all of the surprises: restricted stock units that are under-withheld, and incentive stock options that quietly create alternative minimum tax. Both are predictable. Both are easier to fix in October than in April.
Problem 1: The RSU withholding gap
When restricted stock units vest, the market value of the shares is ordinary wage income. It shows up on your W-2 just like salary. The difference is how much tax your employer holds back. Most companies withhold federal tax on vesting shares at the flat 22% supplemental rate (37% on supplemental wages above $1 million in a year).
If your household’s top bracket is 32%, 35% or 37%, that 22% is not enough. Take $200,000 of RSUs vesting in a year for someone in the 35% bracket: the tax on that income is roughly $70,000, but only $44,000 was withheld. That is a $26,000 shortfall before state tax, and it shows up as a balance due in April, often with an underpayment penalty on top.
The penalty is avoidable. If your prior-year adjusted gross income was over $150,000, you are protected if your withholding and on-time estimated payments cover 110% of last year’s total tax (or 90% of this year’s). The planning work is making sure you hit that number:
- Map your vesting calendar. Every vest date and an estimated share price, so the income is projected instead of discovered.
- Raise withholding on your salary. Extra withholding through your W-4 counts as if it were paid evenly through the year, which makes it the best late-year fix.
- Make quarterly estimated payments when the gap is large or the vests are lumpy.
- Ask your plan administrator whether you can elect a higher withholding rate on your RSUs. Some plans allow it.
Problem 2: The cost-basis trap on your 1099-B
When vested shares are sold, whether through sell-to-cover at vest or later on your own, your broker issues a 1099-B. For RSU shares, the cost basis on that form is frequently reported as $0 or left blank, because the value was already taxed through your W-2.
If the return is filed using the 1099-B as printed, the same income is taxed twice: once as wages and again as a capital gain. The fix is to report the correct basis, the share value on the vest date, on Form 8949 with the appropriate adjustment, using the supplemental statement your broker provides. This is one of the most common errors we find when we review a new client’s prior returns. If it happened in an earlier year, an amended return can usually recover the overpayment for up to three years after filing.
Problem 3: ISOs and the alternative minimum tax
Incentive stock options get favorable treatment for regular tax: no income at exercise, and if you hold the shares at least two years from grant and one year from exercise, the entire gain is taxed at long-term capital gains rates. The catch is the alternative minimum tax. If you exercise and still hold the shares at year-end, the spread (market value minus your strike price) counts as income for AMT purposes.
For 2026, the key AMT figures are:
- Exemption: $90,100 single / $140,200 married filing jointly.
- Phase-out: the exemption shrinks by 50 cents for every dollar of AMT income above $500,000 single / $1,000,000 joint. That faster phase-out rate took effect this year.
- Rates: 26%, rising to 28% on AMT income above $244,500.
A large exercise can push you deep into AMT, and you owe that tax in cash even though you sold nothing. The planning questions are the same every time:
- How much can you exercise this year before AMT kicks in? We model the “crossover point,” where your tentative minimum tax meets your regular tax, so you can exercise up to it in a given year.
- Exercise early in the year when you can. If the stock falls after you exercise, selling the shares before December 31 (a disqualifying disposition) removes the AMT adjustment for that year. An exercise in December leaves no room to change course.
- Track your AMT credit. AMT paid because of an ISO exercise generally becomes a credit (Form 8801) you can use in later years, but only if it is tracked and claimed.
- Watch the $100,000 limit. ISOs that first become exercisable in a year above $100,000 of grant-date value are treated as nonqualified options, which are taxed as wages at exercise.
What planning looks like in practice
None of this requires guessing. Each year we build a vesting and exercise calendar with you, run a full-year tax projection before December 31, and model any exercise before you make it. Withholding, estimates, exercise size and sale timing are then decided with the numbers in front of you instead of after the fact.
If you hold RSUs, ISOs or ESPP shares, see our Stock Options & Equity Compensation page for how we work with equity compensation, or check the current thresholds on our 2026 Tax Rates page.
Start with a complimentary tax projection
New clients start with a complimentary tax projection and a 30-minute conversation with one of our tax planning specialists. Bring your most recent return and your vesting schedule, and we will tell you plainly whether planning is likely to pay for itself. Book a consultation on our Contact page.
This article is general information about federal tax rules as of 2026. It is not tax advice for your situation; the right answer depends on your facts, your state and your full return.