Did you build your portfolio on purpose—or did it happen to you?
Content by Diana Freeburg
Diana Freeburg is a CERTIFIED FINANCIAL PLANNER™ on the Modern Family Finance team who helps tech professionals make the most of their equity compensation, including RSUs, stock options, and the tax planning opportunities that come with them.
Have you ever pulled up your portfolio and realized that one stock is doing most of the heavy lifting? Maybe it’s company RSUs that you’ve been vesting in for years and never dealt with, or shares you took a bet on that have ballooned over time. If your gut reaction is somewhere between “that’s fine, right?” and mild panic, this one’s for you.
Key Takeaways
- How do you know if you’re actually overconcentrated and not just being paranoid?
- What’s really going on emotionally when people avoid diversifying?
- What should you check on the tax side before you do anything?
- What mistakes do people make trying to handle this themselves?
How Much Company Stock Is Too Much?
First things first, what even counts as a concentrated position? A good rule of thumb is that if a single stock is more than 10% of your portfolio- that’s a concentrated position. Another thing to consider is that if it’s company stock and you’re still employed by the organization, your future paycheck and incoming RSUs are also tied to the company’s success. Your employee status makes you even more reliant on this one company’s success than someone who just happens to hold the stock, compounding your risk considerably!
I’ll also add that it’s all relative. If someone has a great deal of wealth, they might be more comfortable with the risk of a concentrated position than someone still in the accumulation phase. For example, having half your wealth tied up in one stock feels different to someone with 5 million in assets vs. someone with 50k in assets. Money is more valuable to the person who doesn’t really have it yet; taking outsized risk may not be appropriate.
Why Is Selling Company Stock Emotionally Difficult?
Here’s the tricky part for advisors: the same concentrated position that makes your advisor nervous is often exactly what made you wealthy enough to hire one. So when I tell someone to diversify, I’m often asking them to do the opposite of what got them here. That can be an uncomfortable ask, and a lot of my job is helping people find the courage to push through the discomfort and do what’s best for their financial future. One of my favorite quotes that financial advisors pass around is “a concentrated position can create wealth but a diversified position sustains it.” Once we’ve “made it,” so to speak, we need to consider if the continued risk of having all your wealth in one company is worthwhile. It can be hard for a client to see that risk when they are walking in the door, maybe feeling like they’ve “made it” or that they’ve got some special sauce. The reality is (and this is going to sound harsh!) —whatever led them to end up with this big pile of money in one stock probably involved some degree of luck. It’s a bit of a trap: if you didn’t sell and the stock doubled, that doesn’t mean you were smart. It means you were lucky, and that feedback loop can convince people to keep taking on outsized risk.
I think there’s another thing going on for folks that are particularly attached to their stock: the endowment effect. Behavioral psychology says we value things more simply because we own them. It’s why people overprice their, umm, beloved household goods on Facebook Marketplace. (Surely this used high chair my kids used for years is still worth 75% of full retail value, right??) I like to ask people: if it were your first day on earth and someone offered you a stock portfolio, would you choose a single stock? Or take the diversified option? Very few people would proactively choose a single-stock portfolio. So why are we so attached to your single-stock portfolio if we know you would never have chosen it over something diversified?
What Taxes Should You Review Before Selling Stock?
One of the first things I’ll ask someone about their concentrated position is whether they know the cost basis. The difference between the cost basis (what the stock was worth when you got it) and the current value is going to show us how much profit you’ll be taxed on. If this holding is a million dollars, but the gain is only 50k, my honest reaction is: calm down. There’s no tax landmine here, so let’s just get you diversified.
If there is a significant tax bill involved, there’s a lot of work to do together! Usually we’re trying to figure out how quickly we’re selling this stock, and how we’re prioritizing shares with different cost bases. Also, can we tell you the actual tax bill so we can make a plan? For really significant holdings, we’ll explore things like Charitable Remainder Trusts, Exchange funds, or direct indexing strategies, to see if one of those options is more appropriate given your goals and desire to avoid or delay tax.
I’ll also be straight with people: most of the “avoid the tax entirely” options aren’t that fun. Holding until you die so your heirs get a stepped-up cost basis avoids tax, sure, but you never got to spend the money. Giving appreciated stock to charity can be wildly tax-efficient, but it still only makes sense if you’re actually charitably inclined. There’s rarely a free lunch. Most people will pay some tax, and that’s often just the cost of getting diversified and sleeping better at night.
One of my favorite client stories from a few years ago is about someone who dealt with an *enormous* tax bill when he decided to exercise and sell 7-figure worth of NSO shares after his company IPO’d and the employee lockup ended.
He used the money to take a 2-year break from work, while his new portfolio of diversified investments grew in the background the whole time. The potential tax consequences of selling NSO shares spooked a lot of his coworkers, but with the benefit of hindsight, he ended up being lucky to be in a position to have to pay tax. The stock price dropped to about ¼ of its value when he sold it, and his coworkers who were sitting on their stock ended up with very little profit.
He was extraordinarily lucky, and considers paying tax in this case “taking the win.”
What Are Your Options for Diversifying?
I’ve seen people take a real swing at this on their own, and the mistakes are pretty consistent:
- Selling the position and then just sitting in cash, unsure what to do next
- Not planning for the tax bill, or not making an estimated payment to avoid an IRS penalty
- Getting stuck on timing, trying to pick the “perfect” day to sell- which never happens
I find that so many people hire us because they are just stalled out. They don’t know the steps to diversifying; the potential tax implications freak them out. They go in to sell the shares, and the price drops by $5 from last week, and they’re spooked. It’s easy to put “get diversified” on your to-do list but not take action. (Honestly, this is a theme across so many of the financial tasks we help people with!) As advisors, it’s our job to work together on a strategy you’re excited about and then move the process forward proactively.
So What Should You Actually Do?
If you’ve read this and thought, “that might be me,” the first move isn’t to pick a strategy. It’s understanding your cost basis and what percentage of your total portfolio this position really represents. From there, the conversation about diversifying gets a lot less scary, and a lot more like a plan.
If any of this sounds like your portfolio, or you’ve been meaning to deal with it and keep putting it off, let’s talk it through. Schedule a call with Modern Family Finance, and we’ll help you figure out where you actually stand and what to do about it.
Content on this site is written by the Modern Family Finance team and Perfectly Planned Content.