How much company stock is too much when retirement is a few years away?

When is company stock too much once the paychecks stop?

Company stock becomes too much past roughly a quarter of net worth, or at the point where a 40 percent fall in the share price would wipe out more than two years of planned withdrawals. Under 10 percent, leave it alone. From 10 to 25 percent, stop adding.

Here is the shortcut in bands of net worth. Under 10 percent, the position is small enough to ignore. From 10 to 25 percent, stop buying and, where your ownership guideline allows, sell new vests as they arrive. Above 25 percent, sell down before the salary stops, then test the result in years of withdrawals: a 40 percent drop in the stock should never cost more than two years of what you plan to take out annually. Concentrated stock planning goes deeper on how to build the sell-down itself.

What does a 40 percent drop do to a $4 million household spending $200,000 annually? At 10 percent concentration it costs 0.8 years of spending, at 25 percent it costs 2.0 years, and at 45 percent it costs 3.6 years. The cost climbs much faster than the household can absorb once the stake passes a quarter, because a retiree has no paycheck to refill the hole.

Recovery math is also less friendly than most people remember. A 40 percent loss needs about a 67 percent gain to get back (1 ÷ 0.6 = 1.67); a 30 percent loss needs about 43 percent, and a 50 percent loss needs 100 percent. Once withdrawals start, the household sells shares every month while it waits for that recovery, which digs the hole deeper.

Step 1: Pull every statement that holds an employer share

Most executives near retirement believe they already know how much of their wealth sits in the company, because the brokerage login shows a tidy balance. It rarely shows everything. Start with the stock plan administrator's lot report from the equity portal, which lists every vest, ESPP purchase and exercise lot with its basis and acquisition date. Add the 401(k) statement line for the company stock fund and the deferred compensation statement from the plan's recordkeeper. Then pull a year of checking and credit card activity. That gives you what the household actually spends, which is usually more than people guess.

Then work out two ratios. The first divides company shares by net worth excluding the home. The second adds the deferred compensation balance, because that balance is an unsecured promise from the same employer and fails in the same bad year as the stock. Take Vernon, a 59-year-old chief operating officer (hypothetical, round numbers), and his wife Judy, 57: their shares are $2.8 million of a $6 million net worth, about 47 percent. Add $1.1 million of deferred pay ($3.9 million ÷ $6 million) and the employer accounts for 65 percent.

Leaving the stock plan account out of the household report lets a long-time advisor show a moderate allocation while about half the money rides on one company. For a couple with $2.8 million in shares, a 40 percent drop would cost $1.12 million that the quarterly report never flagged. Catch it by asking for one household view that lists the stock plan account, the 401(k) stock fund and the deferred balance together. Scotia Wealth Management builds that view first when it reviews an existing setup, before it comments on anything else.

Step 2: Three beliefs about company shares that cost retirees money

You may believe that knowing the business makes the stock safer. Knowing operations doesn't predict the share price. A chief operating officer at an industrial manufacturer already has salary, bonus and deferred pay tied to the same company and the same business cycle, so one bad year hits all of them together, and the shares are simply one more exposure to it.

A second belief says it's better to sell after retirement, when taxes are lower. Often they aren't. Deferred compensation payouts and later required minimum distributions (starting at age 73, or 75 for people born in 1960 or later, under IRS rules) tend to keep income high, and the stock risk stays in place for every waiting year. Shares held more than one year get long-term rates whenever they're sold, so waiting buys no rate advantage.

The third belief is that it always comes back, and that holding until death earns the step-up. Assuming 5 percent a year, for illustration, recovering a 40 percent drop takes about 10 and a half years. The basis step-up helps heirs only on shares that were never sold, while a retiree funding withdrawals sells every year. There's one honest exception: someone with near-zero basis who truly expects to hold until death can reasonably wait, and that's a judgment call, not an error.

Step 3: Run the sell-down against your first retired years

Vernon retires in two years, holding $2.8 million of his employer's shares with a $560,000 basis, and the couple expects to spend $240,000 annually once his salary stops. They have kept the same advisor for 15 years, and Judy is a retired pharmacist. The $1.1 million of deferred compensation sits outside this step; here we test only the shares.

In each of the two working years, the paycheck covers spending and the couple sells $500,000 of shares. The basis is 20 percent of value ($560,000 ÷ $2.8 million), so $100,000 of each sale is basis and $400,000 is gain. An assumed 20 percent tax costs $80,000 per sale, or $160,000 across both years. That leaves $840,000 after tax ($1,000,000 − $160,000) and $1.8 million of shares still held.

Assume the price stays flat until year three, Vernon's first retired year, when it falls 40 percent for illustration. The $1.8 million loses $720,000, which is three years of spending. Had they sold nothing, the full $2.8 million would have lost $1.12 million, about 4.7 years. The $840,000 covers 3.5 years of withdrawals ($840,000 ÷ $240,000), and they draw it first, so no share is sold at the low. The diversified money can fall too; markets go down as well as up, and any investment, including the reinvested proceeds, can lose value.

Now the honest flip. If the stock rises instead, the couple paid $160,000 of tax early, but the $1.8 million still held captures most of the gain. After two years the shares are about 31 percent of roughly $5.84 million ($1.8 million ÷ $5.84 million), still above a quarter, so the roadmap keeps selling once the cash cushion is in place.

The 401(k) allocation and Judy's IRA, which their long-time advisor set up, stay exactly as they are, because they work. Ahead of any recommendation to sell, Scotia Wealth Management lists every lot by basis and holding period, and the high-basis long-term lots go first. That is the second-opinion approach in practice: fix the one account that's broken and leave the rest alone.

Step 4: What happens if you're single, or retire at 55?

A single executive should move the line down to roughly 20 percent of net worth, because no second income or retirement account stands behind the shares. A married couple whose spouse holds a separate IRA or pension can carry a little more. An executive who retires at 55 should start selling sooner than either.

Balance size changes the years-of-withdrawals test. In a $10 million household spending $200,000 annually, a 40 percent drop on a 25 percent stake costs $1 million ($10 million × 0.25 × 0.40), which is five years of spending. In a $1.5 million household the same percentage stake is $375,000, and the drop takes $150,000, a tenth of everything the couple owns; at $60,000 annually that is 2.5 years of spending, with little else to draw on.

An early retiree at 55 faces more years of withdrawals from a shrunken pile, and no Social Security until 62 at the earliest. Taxable share sales and the 401(k)'s age-55 separation exception may be the only penalty-free sources, so the sell-down has to begin sooner. Executive retirement planning covers how those early-retirement sources fit together.

Step 5: Ask the plan and the stock administrator before the window opens, then leave room

Ask the stock plan administrator for lot-level basis on every lot. An answer that should worry you is a supplemental 1099-B showing $0 basis on vested RSU shares, because a CPA has to correct it before the sale or you'll be taxed on the full proceeds (the RSU tax page covers this in detail). Then put three questions to HR or legal.

If no open window falls before retirement, the route is a 10b5-1 trading plan, which requires a cooling-off period before the first sale, and that has its own page. The shortcut also doesn't fit an executive whose ownership guideline or holding requirement blocks sales. Hedging, exchange funds and the deferred compensation payout election need their own treatment too.

Leave room for health. The sell-down shouldn't depend on Vernon working both remaining years: if he stops after one year, the second sale simply moves into retirement and is funded the same way. Leave room for markets and the law as well. The schedule sells fixed amounts and doesn't chase the price, and it doesn't bet everything on today's capital gains rates or step-up rules staying put, since Congress can change both.

• Ask HR or legal when the trading window opens and closes, and which cutoff dates fall before your retirement date.
• Ask whether a post-retirement holding requirement or the ownership guideline still applies after you retire.
• Ask whether every sale needs pre-clearance, and how long an approval stays valid.

If your spouse is the one asking about the shares

Judy, the retired pharmacist, will usually raise the question first. She sees the household as one bet, where Vernon tends to see his career. Talk in years of withdrawals at risk: $1.12 million is about 4.7 years of their spending. Then both of you sign the sell-down schedule in the roadmap, so it survives the next good quarter, when selling feels foolish.

When to bring the share count to Scotia Wealth Management

Talk to Scotia Wealth Management when company shares pass a quarter of your net worth or retirement is within about three years. Bring the lot-level stock plan report, the deferred compensation statement with your current payout election, the 401(k) statement and a 12-month spending figure. We'll tell you which parts of your existing setup to keep and which to fix.