ESPP: Another Tool in the Retirement Belt

by Marc Bastow | March 4, 2013 9:51 am

Congratulations! You’ve been working for your publicly held company now for just more than six months, and now they’ve sent you an invitation to enroll in its employee stock purchase plan.

Do it.

Many times, the retirement pendulum swings in the wrong direction — some employers don’t do company matches on 401ks, while others don’t even offer plans at all. But if you’re lucky enough to receive a letter about an ESPP, it means your employer is providing you with a chance to buy company stock … oftentimes at a discount!

The basics are fairly simple:

Your employer sets aside a percentage of your (after-tax) paycheck each pay period — generally up to a maximum of 15% — at which point it calculates the total amount you’ve saved.
Your employer provides a “discount” value calculation to the company stock price at the end of the savings period.
Your money is used to purchase shares.

Let’s look at a hypothetical example based on one pay period:

Bi-Weekly Compensation: $1,500
Contribution Percentage: 15%
Contribution Amount: $225 ($1,500 x 0.15)
Fair Market Value on Purchase Date: $60 per share
Discount: 10% (so, 90% of the fair market value on the purchase date)
Purchase Price: $54 per share ($60 x 0.9)
Shares Purchased: 4 (contribution of $225 / share price of $54 = 4.166, rounded to 4 total shares)

The shares are now yours to do with as you choose, subject to the rules in the plan. Most companies have a “house” broker, and that’s where your shares will wind up to start. Transferring those shares to your own account might cost you money, and each plan describes those costs, so research this before deciding what to do.

Also, keep good records of these purchases. Any future stock sales are subject to taxation based on the discounted price you paid (your cost basis), which will determine the appropriate consequences for tax purposes when you sell. If you’ve forgotten to keep records, don’t be shy about contacting whomever your company has contracted with to service the ESPP.

Now a quick word on the investment: Like any other stock purchase, you have to decide whether your own company’s stock is the best use of your money — just because it’s discounted doesn’t necessarily mean it’s the best value, and discount or not, there might be better growth/income prospects elsewhere. You also might consider maxing out your 401k or IRA contributions before enrolling in an ESPP.

So, just make sure to evaluate your investment profile, do homework on your own company’s stock and decide how much (if anything) you can afford to put into the plan before enrolling.

With any luck — that is, if your company performs well and the stock follows suit — the ESPP eventually will provide a nice complement to your broader retirement effort.

Trust me. It’s the exact same advice I just gave my son.

Marc Bastow is an Assistant Editor at InvestorPlace.com.

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