Ask an RU: Underwriting Loans with Restricted Stock Units as Income

It’s an ordinary day of underwriting mortgage files and then you see it – a restricted stock unit listed as income for the borrower.

Depending on where you work, this may or may not be a common scenario you run into. Regardless, let’s dive into restricted stock units (RSU), how they’re taxed, and how the GSEs treat RSUs.

What Is a Restricted Stock Unit?

A restricted stock unit is a form of compensation issued by an employer to an employee in the form of company shares. RSUs are issued to an employee through a vesting plan and distribution schedule after achieving required performance milestones or upon remaining with his/her employer for a particular length of time.

RSUs give an employee interest in company stock but they have no tangible value until vesting is complete. Upon vesting, they are assigned a fair market value and are then considered income, a portion of which is withheld to pay income taxes. The employee receives the remaining shares and can sell them at his/her discretion.

Understanding Restricted Stock

Restricted stock as a form of executive compensation became more popular after accounting scandals in the mid-2000s as a better alternative to stock options. At the end of 2004, the Financial Accounting Standards Board (FASB) issued a statement requiring companies to book an accounting expense for stock options issued.

Now, RSUs are granted to all levels of employees. RSUs also allow a company to defer issuing shares until the vesting schedule is complete, which helps delay the dilution of its shares.

Taxation

With RSUs, a recipient is taxed when the shares are delivered, which is almost always at vesting. The taxable income is the market value of the shares at vesting. The RSU recipient will have compensation income subject to federal and employment tax (Social Security and Medicare) and any state and local tax. That income is subject to mandatory supplemental wage withholding. Withholding taxes, which for U.S. employees appear on Form W-2 along with the income, include the following:

• Federal income tax at the flat supplemental wage rate, unless your company uses your W-4 rate
• Social Security (up to the yearly maximum) and Medicare
• State and local taxes, when applicable

A company may offer a choice of ways to pay taxes at vesting, or it may use a single mandatory method. The most common practice is taking the amount from the newly delivered shares by surrendering stock back to the company. This holds or “tenders” shares to cover the taxes under a net-settlement process, and company cash is used for the payroll tax deposit.

Agency and Enact Guidelines on Restricted Stock Units

The guidelines around using restricted stock units as qualifying income are not terribly complex but below we’ve outlined some key takeaways.

Freddie Mac Guidelines

When qualifying a loan for sale to Freddie Mac, you’ll first want to determine if the restricted stock units are subject to either performance-based vesting provisions or time-based vesting provisions.

For performance-based vesting provisions, you’ll need a history of two years of consecutive receipts, proof that the payment is likely to continue for at least the next three years, and sufficient documentation like paystubs and W-2s.

For time-based vesting provisions, you’ll need a one-year history of receipt, proof the payment is likely to continue for the next three years, and sufficient documentation for proof of payment. See the full breakdown of performance-based vs time-based vesting RSU guidelines in the charts below.

Section 5303.3 – Additional employed income

Effective 12/02/2020

Once you have all the documentation for the file, you’ll need to complete a calculation based on Section 5303.4. These calculations must be completed based on whether the RSU is performance-based vs time-based, as well.

Section 5303.4 – Employed income calculation guidance and requirements

Effective 07/02/2020

Fannie Mae Guidelines

FNMA doesn’t have a policy on vested RSUs as income. In section B3-3.1-09, Other Sources of Income (12/16/20), they do reference non-vested restricted stock.

Employment-Related Assets as Qualifying Income

Ineligible assets are non-employment-related assets. These may include:

• Stock options
• Non-vested restricted stock
• Lawsuits
• Lottery winnings
• Sale of real estate
• Inheritance
• Divorce proceeds

Checking and savings accounts are generally not eligible as employment-related assets, unless the source of the balance in a checking or savings account was from an eligible employment-related asset like a severance package or lump sum retirement distribution.

Enact Guidelines

When working with Enact, know that we will follow agency guidelines on a DU/LPA loan with Approve/Eligible or Accept/Eligible recommendations.

Manually underwritten loans are subject to our standard guidelines in Section 7.11.  Enact does not have a stated policy regarding restricted stock units, therefore you should refer to the GSEs’ guidelines on RSUs.

Be sure to check with your investor to see if they have any investor specific requirements on RSUs.

Still have questions about restricted stock units as income? You can reach out to an Enact Regional Underwriter at 800-444-5664 option 2 if you have questions or a loan scenario you wish to discuss. We would be happy to assist you.