If you have a 401(k), odds are, you can withdraw money from it–but there are rules, penalties, and taxes to take into account, depending on several factors. Even so, if you’ve diligently contributed to a 401(k) fund, and watched your balance grow,, you may have found yourself wondering “When can I withdraw from my 401(k) account?”
It’s a common question, and some key things to consider include whether you’re still working or already retired, if you qualify for a hardship withdrawal, whether it makes sense to take out a 401(k) loan, or rollover your 401(k) into another account.
What Are The Rules For Withdrawing From a 401(k)?
Because 401(k) accounts are retirement savings vehicles, there are restrictions on exactly when investors can withdraw 401(k) funds. Typically, account holders can withdraw money from their 401(k) without penalties when they reach the age of 59½. If they decide to take out funds before that age, they may face penalty fees for early withdrawal.
That said, there are some circumstances in which people can take an early withdrawal from their 401(k) account before 59 ½. Each plan should have a description that clearly states if and when it allows for disbursements, hardship distributions, 401(k) loans, or the option to cash out the 401(k).
💡 Quick Tip: How do you decide if a certain trading platform or app is right for you? Ideally, the investment platform you choose offers the features that you need for your investment goals or strategy, e.g., an easy-to-use interface, data analysis, educational tools.
What Age Can You Withdraw From 401(k) Without Penalty?
The rules about the penalties for 401(k) withdrawals depend on age, with younger workers generally facing higher penalties for withdrawals, especially if they’re not yet retired.
The IRS provision known as the “Rule of 55” allows account holders to withdraw from their 401(k) or 403(b) without any penalties if they’re 55 or older and leaving their job in the same calendar year.
In the case of public safety employees like firefighters and police officers, the age to withdraw penalty-free under the same provision is 50.
Under the Age of 55
When 401(k) account holders are under the age of 55 and still employed at the company that sponsors their plan, they have two options for withdrawing from their 401(k) without penalties:
If they’re no longer employed at the company, account holders can roll their funds into a new employer’s 401(k) plan or possibly an IRA.
Between Ages 55–59 1/2
The Rule of 55, as previously mentioned, means that most 401(k) plans allow for penalty-free retirements starting at age 55, with the exception of public service officials who are eligible as early as 50. Still, there are a few guidelines to consider around this particular IRS provision:
1. Account holders who retire the year before they turn 55 are subject to a 10% early withdrawal penalty tax.
2. If account holders roll their 401(k) plans over into an IRA account, the provision no longer applies. A traditional IRA account holder cannot withdraw funds penalty-free until they are 59 ½.
3. Once a 401(k) account holder reaches 59 ½, access to their funds depends on whether they are retired or still employed.
After Age 73
In addition to penalties for withdrawing funds too soon, you can also face penalties if you take money out of a retirement plan too late. When you turn 73, you must withdraw a certain amount, known as a “required minimum distribution (RMD),” every year, or face a penalty of up to 50% of that distribution.
Withdrawing 401(k) Funds When Already Retired
If a 401(k) plan holder is retired and still has funds in their 401(k) account, they can withdraw them penalty-free at age 59 ½. The same age rules apply to retirees who rolled their 401(k) funds into an IRA.
Withdrawing 401(k) Funds While Still Employed
If a 401(k) plan holder is still employed, they can access the funds from a 401(k) account with a previous employer once they turn 59 ½. However, they may not have access to their 401(k) funds at the company where they currently work.
401(k) Hardship Withdrawals
Under certain circumstances, 401(k) plans allow for hardship withdrawals or early distributions. If a plan allows for this, the criteria for eligibility should appear in plan documents.
Hardship distributions are typically only offered penalty-free in the case of an “immediate and heavy financial need,” and the amount disbursed is not more than what’s necessary to meet that need. The IRS has designated certain situations that can qualify for hardship distributions, including:
• Certain medical expenses
• Purchasing a principal residence
• Tuition and educational expenses
• Preventing eviction or foreclosure on a primary residence
• Funeral costs
• Repair expenses for damage to a principal place of residence
The terms of the plan govern the specific amounts eligible for hardship distributions. In some cases, account holders who take hardship distributions may not be able to contribute to their 401(k) account for six months.
As far as penalties go, hardship distributions may be included in the account holder’s gross income at tax time, which could affect their tax bill. And if they’re not yet 59 ½, their distribution may be subject to an additional 10% tax penalty for early withdrawal.
Taking Out a 401(k) Loan
Some retirement plans allow participants to take loans directly from their 401(k) account. If the borrower fulfills the terms of the loan and pays the money back in the agreed upon timeframe (usually within five years), they do not have to pay additional taxes on it.
That said, the IRS caps the amount someone can borrow from an eligible plan at either $50,000, or half of the amount they have saved in their 401(k)—whichever is less. Also, borrowers will likely pay an interest rate that’s one or two points higher than the prime.
IRA Rollover Bridge Loan
The IRS allows for short-term tax and penalty-free rollover loans, assuming you follow a 60-day rule. In short, the 60-day rollover rule requires that all funds withdrawn from a retirement account be deposited into a new retirement account within 60 days of their distribution, so, within that 60-day window, you can use the money as a bridge loan.
401(k) Withdrawals vs Loans
While most financial professionals would likely tell you that it’s wise to keep your retirement funds where they are for as long as possible, withdrawals and loans are possible. If you do find yourself looking at either withdrawing or borrowing money from your retirement accounts, it may be best to use the loan option as you won’t get dinged on taxes–and assuming that you can pay the money back within the given time frame.
But again, this is likely a decision that should be made with the help of a financial professional.
Cashing Out a 401(k)
Cashing out an old 401(k) occurs when a participant liquidates their account. While it might sound appealing, particularly if a plan holder needs money right now, cashing out a 401(k) can have some drawbacks. If the plan holder is younger than 59 ½, the withdrawn funds will be subject to ordinary income taxes and an additional 10% penalty tax. That means that a significant portion of their 401(k) would go directly to the IRS.
Rolling Over a 401(k)
Instead of cashing out an old 401(k), account holders may choose to roll over their 401(k) into an IRA. In many cases, this strategy allows participants to continue saving for retirement, avoid unnecessary penalty fees, and reduce their total number of retirement accounts.
The Takeaway
While it may be possible to withdraw money from a 401(k) at almost any time, there are things to consider, such as taxes and penalties. Certain factors like age, employment status and hardship eligibility determine whether you can make a withdrawal from your 401(k).
In cases where plan participants do not meet age requirements for withdrawing 401(k) funds penalty-free, they can still take out a 401(k) loan, cash out a pre-existing 401(k) plan, or rollover their 401(k) into a different retirement account. As always, though, it may be best to discuss your options with a financial professional.
Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).
For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.
FAQ
Can you take out 401(k) funds if you only need the money short term?
It’s possible, and one way that some people “borrow” from their 401(k)s for short periods of time is by utilizing the 60-day rollover window. While you’d need to open a new retirement account, this rollover period can allow you to borrow retirement funds tax and penalty-free for a short period of time.
How long does it take to cash out a 401(k) after leaving a job?
The period of time between when you leave a job and when you can withdraw money from your 401(k) will depend on your employer and the company that administers your account, but probably won’t take longer than two weeks.
What are other alternatives to taking an early 401(k) withdrawal?
Perhaps the most obvious alternative to taking an early 401(k) withdrawal is to take out a loan from your retirement account instead, which allows savers to repay the money over time without penalty.
SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below:
Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Claw Promotion: Customer must fund their Active Invest account with at least $25 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.
Many people love showing their holiday spirit with Christmas lights, whether just a strand of twinkle lights around a window or going all-out like the Griswolds.
While these lights are festive, it’s worth noting that they aren’t free. In fact, the cost of running holiday lights rose 13% last year, costing the average household $15.48 vs. $13.41 the prior year.
In this economy, every dollar can count, so if you want to learn how much it costs to run Christmas lights for a month and how to reduce that expense, read on.
Here, you’ll learn more about:
• How much do Christmas lights cost to run?
• How much does it cost to run Christmas lights for a month?
• How can you save money on your holiday light electric bill?
Factors Affecting the Cost of Running Christmas Lights
Running Christmas lights uses energy, which can translate to higher utility bills. How much of an increase you see in your electric bill can depend on a number of factors, including:
• How many strands of lights you use
• The type of bulbs used in each strand
• The number of hours you run your lights each day
• How many days you run Christmas lights for
• Where you live and what you pay per kilowatt hour for electricity.
All of these things can influence how large your Christmas lights electric bill turns out be once January rolls around. Understanding what you could wind up paying can help if affordably celebrating the holidays is your goal.
Keep in mind that other costs can drive up electric bills during the holidays, apart from Christmas lights. If you’re using the oven more often to prepare holiday meals, for example, that can result in a higher electric bill. You may also see a bigger bill if colder weather means the heat is kicking on more often or your kids are home all day using electronics more while school is out. Lowering your energy bill may require a multifaceted approach.
💡 Quick Tip: Tired of paying pointless bank fees? When you open a bank account online you often avoid excess charges.
How Much Electricity Do Christmas Lights Use?
The amount of energy used by Christmas lights can depend on the type of bulb and the number of bulbs per strand. The most popular options for Christmas lights include incandescent mini lights, mini LED lights, and ceramic C7 lights.
So which type of bulb uses the most energy?
The simplest answer is to look at the wattage of Christmas lights, based on bulb size and number of bulbs per strand. For example:
• With C7 lights, for instance, you’re typically getting 25 lights per strand.
• With mini LED lights, you’ll normally have 50 bulbs for a 14-foot strand and 100 bulbs per 32-foot strand.
• With mini icicle lights, you often have 300 bulbs for a 26-foot strand.
Here’s how the average wattage for each one compares, though note that incandescent bulbs stopped being manufactured and sold in August 2023 (some people may still own and use strands of these, however):
• C7 lights: 5 watts
• C9 incandescent lights (2-¼” long): 7 watts
• Mini incandescent lights: 0.4 watts
• Mini LED lights: 0.07 watts
Between those three options, mini LED lights draw the least amount of energy per strand while C7 lights draw the most.
LEDs possibly lowering energy costs by up to 90% vs. the other options. Switching to LEDs could be a way to save money daily during the holidays.
Also note that you’d need four strands of C7 lights to equal the same number of bulbs in just one strand of incandescent or LED mini lights. This is important to understand because it can affect the number of kilowatt hours used and your overall energy costs.
So how much do Christmas lights cost to run for a month? Or longer? Calculating your estimated cost of running Christmas lights matters when trying to lower your electric bill during the winter months. Again, what you’ll pay can depend on a variety of factors, including where you live and how much electricity costs.
The average household pays $0.17 cents per kilowatt hour for electricity, according to the U.S. Department of Energy, but prices may be significantly higher or lower in different parts of the country due to cost of living differences.
If you live in Connecticut, for example, you might pay an average of $0.21 cents per kilowatt hour. People living in Florida, however, might pay an average of $0.11 cents per kilowatt hour. Residents of Hawaii typically pay the most, currently spending $0.32 cents per kilowatt hour.
Here’s how to figure out how much you’ll pay for Christmas lighting:
• Multiply the wattage of the lights by the hours per day the lights will be on, then divide by 1,000 to find kilowatt hours per day
• Multiply kilowatt hours per day by your cost of electric usage to get the cost per day
• Multiply the cost per day by the number of days your lights will be on
Calculating the Cost of Christmas Lights
Now, for how much does it cost to run Christmas lights? Here’s a look at what it would cost to run C7 lights, C9, and mini incandescent lights, and mini LED lights for six hours a day for 30 days, using a price of $0.14 cents per kilowatt hour. Here’s what you’d pay for each one:
Bulb Type
Hourly Cost
Daily Cost
Monthly Cost
C7 (25 bulbs, 5 watts per bulb)
$0.0175
$0.105
$3.15
C9 (25 bulbs, 7 watts per bulb)
$0.025
$0.15
$4.50
Incandescent Mini Lights (100 bulbs, 0.45 watts per bulb)
$0.0063
$0.0378
$1.13
Mini LED Lights (100 bulbs, 0.07 watts per bulb)
$0.0042
$0.0252
$0.76
Keep in mind that these costs are for just one strand of lights, as noted. If you string together several strands on your tree, frame your windows with lights, and then drape your shrubs or street-facing windows outdoors with more, your costs will of course go up.
Also, in terms of what the average person spends on Christmas lights, it can vary by a state’s cost of living, as well as by what kind of bulbs are used. Louisiana residents who run LED lights, for example, would likely spend the least, since they are paying just over nine cents per kilowatt hour (currently the lowest rate in the US) and they would be using energy-saving bulbs. Meanwhile, Hawaiians who opt for incandescent bulbs would probably spend the most, since their bulbs use a considerable amount of power and they currently pay the highest national rate for energy of almost 33 cents per kilowatt hour.
💡 Quick Tip: Most savings accounts only earn a fraction of a percentage in interest. Not at SoFi. Our high-yield savings account can help you make meaningful progress towards your financial goals.
Tips to Save on Your Christmas Lighting Bill
If you’re looking for ways to lower your energy bill when you start plugging in your holiday lights, follow this advice.
Embracing Energy-Efficient LEDs
As mentioned, the wattage of Christmas lights plays an important part in determining how much you pay for electric bills over the holidays. Between C7 lights, incandescent lights and LED lights, LED lights are highly energy-efficient. According to the Department of Energy, residential LEDs that are ENERGY STAR rated use up to 75% less energy and last 25 times longer than incandescent lights.
People who use LED Christmas lights tend to pay far less than those using incandescent bulbs or C7 lights. So it follows that an easy way to save money on your electric bill and reduce energy usage would be to use mini LED lights as often as possible. Aside from that, LED bulbs emit less light and are less likely to overload sockets, making them a potentially safer option for Christmas lighting compared to other types of bulbs.
So if you still have some incandescent bulbs in your box of Christmas decorations, you may want to think about swapping them out for LEDs. (You won’t find incandescents made or sold in the US anymore either.)
Benefits of Solar-Powered Outdoor Lights
You might consider using solar-powered outdoor lights on your house over the holidays. These strands depend upon energy collected by small panels that gather and hold energy from the sun during the day.
These strands don’t plug in and draw no electrical power. So they can be especially easy and economical to use over the holidays.
Battery-Operated Lights for Smaller Displays
If you like to create smaller displays, you might consider battery-powered strands of lights. There is a wide range of how long these lights will stay illuminated, but this can be a good unplugged option to try for small-scale displays. While you do have to pay for the batteries, it can be cheaper than plugging in lights for weeks on end.
A higher-than-usual electric bill can put a damper on your holiday celebrations. Estimating your potential costs beforehand can help you manage utility expenses. And you can decide whether it’s worth it to invest a little money in upgrading your current Christmas lights to energy-efficient options.
Having the right banking partner, such as one with budgeting tools, can also help make tackling high utility bills after the holidays easier.
Interested in opening an online bank account? When you sign up for a SoFi Checking and Savings account with direct deposit, you’ll get a competitive annual percentage yield (APY), pay zero account fees, and enjoy an array of rewards, such as access to the Allpoint Network of 55,000+ fee-free ATMs globally. Qualifying accounts can even access their paycheck up to two days early.
Better banking is here with SoFi, NerdWallet’s 2024 winner for Best Checking Account Overall.* Enjoy up to 4.20% APY on SoFi Checking and Savings.
FAQ
Do LED Christmas lights use a lot of electricity?
Compared to C7 lights or incandescent mini lights, LED Christmas lights use the least amount of energy. Specifically, they can use up to 90% less energy while lasting longer. LED Christmas lights also emit less heat and can be easier to install than other types of holiday lighting.
Do Christmas lights raise your light bill?
Holiday lights can raise your electric bill during the winter months. How much it costs to run Christmas lights can depend on several things, including the type of bulbs used, how many light strands you’re running, how long you turn the lights on for, and the average cost of energy per kilowatt hour in your area. Using timers and switching to energy-efficient bulbs can be helpful for reducing your Christmas lights electric bill.
Do Christmas trees use a lot of electricity?
Christmas trees can use a lot of electricity, depending on the type of lights you use, the number of strands on the tree, and how long you leave your tree plugged in each day. Using mini LED lights can reduce electric costs for Christmas tree lighting, while using C7 bulbs to light your tree could result in a higher energy bill.
SoFi members with direct deposit activity can earn 4.20% annual percentage yield (APY) on savings balances (including Vaults) and 0.50% APY on checking balances. Direct Deposit means a recurring deposit of regular income to an account holder’s SoFi Checking or Savings account, including payroll, pension, or government benefit payments (e.g., Social Security), made by the account holder’s employer, payroll or benefits provider or government agency (“Direct Deposit”) via the Automated Clearing House (“ACH”) Network during a 30-day Evaluation Period (as defined below). Deposits that are not from an employer or government agency, including but not limited to check deposits, peer-to-peer transfers (e.g., transfers from PayPal, Venmo, etc.), merchant transactions (e.g., transactions from PayPal, Stripe, Square, etc.), and bank ACH funds transfers and wire transfers from external accounts, or are non-recurring in nature (e.g., IRS tax refunds), do not constitute Direct Deposit activity. There is no minimum Direct Deposit amount required to qualify for the stated interest rate. SoFi members with direct deposit are eligible for other SoFi Plus benefits.
As an alternative to direct deposit, SoFi members with Qualifying Deposits can earn 4.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances. Qualifying Deposits means one or more deposits that, in the aggregate, are equal to or greater than $5,000 to an account holder’s SoFi Checking and Savings account (“Qualifying Deposits”) during a 30-day Evaluation Period (as defined below). Qualifying Deposits only include those deposits from the following eligible sources: (i) ACH transfers, (ii) inbound wire transfers, (iii) peer-to-peer transfers (i.e., external transfers from PayPal, Venmo, etc. and internal peer-to-peer transfers from a SoFi account belonging to another account holder), (iv) check deposits, (v) instant funding to your SoFi Bank Debit Card, (vi) push payments to your SoFi Bank Debit Card, and (vii) cash deposits. Qualifying Deposits do not include: (i) transfers between an account holder’s Checking account, Savings account, and/or Vaults; (ii) interest payments; (iii) bonuses issued by SoFi Bank or its affiliates; or (iv) credits, reversals, and refunds from SoFi Bank, N.A. (“SoFi Bank”) or from a merchant. SoFi members with Qualifying Deposits are not eligible for other SoFi Plus benefits.
SoFi Bank shall, in its sole discretion, assess each account holder’s Direct Deposit activity and Qualifying Deposits throughout each 30-Day Evaluation Period to determine the applicability of rates and may request additional documentation for verification of eligibility. The 30-Day Evaluation Period refers to the “Start Date” and “End Date” set forth on the APY Details page of your account, which comprises a period of 30 calendar days (the “30-Day Evaluation Period”). You can access the APY Details page at any time by logging into your SoFi account on the SoFi mobile app or SoFi website and selecting either (i) Banking > Savings > Current APY or (ii) Banking > Checking > Current APY. Upon receiving a Direct Deposit or $5,000 in Qualifying Deposits to your account, you will begin earning 4.20% APY on savings balances (including Vaults) and 0.50% on checking balances on or before the following calendar day. You will continue to earn these APYs for (i) the remainder of the current 30-Day Evaluation Period and through the end of the subsequent 30-Day Evaluation Period and (ii) any following 30-day Evaluation Periods during which SoFi Bank determines you to have Direct Deposit activity or $5,000 in Qualifying Deposits without interruption.
SoFi Bank reserves the right to grant a grace period to account holders following a change in Direct Deposit activity or Qualifying Deposits activity before adjusting rates. If SoFi Bank grants you a grace period, the dates for such grace period will be reflected on the APY Details page of your account. If SoFi Bank determines that you did not have Direct Deposit activity or $5,000 in Qualifying Deposits during the current 30-day Evaluation Period and, if applicable, the grace period, then you will begin earning the rates earned by account holders without either Direct Deposit or Qualifying Deposits until you have Direct Deposit activity or $5,000 in Qualifying Deposits in a subsequent 30-Day Evaluation Period. For the avoidance of doubt, an account holder with both Direct Deposit activity and Qualifying Deposits will earn the rates earned by account holders with Direct Deposit.
Members without either Direct Deposit activity or Qualifying Deposits, as determined by SoFi Bank, during a 30-Day Evaluation Period and, if applicable, the grace period, will earn 1.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances.
Interest rates are variable and subject to change at any time. These rates are current as of 10/31/2024. There is no minimum balance requirement. Additional information can be found at https://www.sofi.com/legal/banking-rate-sheet.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
A personal loan is a flexible type of loan issued by a bank, credit union, or online lender that you pay back in regular, fixed payments over a set term.
Personal loans work a little differently than other types of loans. Consumer loans typically specify what the money should be spent on: Mortgages are used to purchase or refinance homes, and student loans are used to pay for an education. But there aren’t as many restrictions on how you can or can’t spend personal loan funds, which allows for more flexibility than other types of loans.
Read on to learn more about how personal loans work, including how much you can borrow, how to apply, and the different types of personal loans.
As mentioned before, a personal loan is a one-time lump sum you borrow from a bank or other financial institution and repay over time, usually with interest. The funds can be used for almost anything.
Loan amounts generally range from $1,000 to $50,000, though some lenders offer personal loans up to $100,000. Repayment terms are usually anywhere from two to seven years.
💡 Quick Tip: Before choosing a personal loan, ask about the lender’s fees: origination, prepayment, late fees, etc. SoFi personal loans come with no-fee options, and no surprises.
Key Points
• A personal loan is a flexible type of loan issued by a bank, credit union, or online lender that you pay back in regular, fixed payments over a set term.
• Personal loans can be used for almost anything. Loan amounts generally range from $1,000 to $50,000, though some lenders offer personal loans up to $100,000. Repayment terms are usually anywhere from two to seven years.
• The interest rate on a personal loan is determined by the lender and is based on a number of factors, including the applicant’s financial history, income, debt, and credit score.
• Personal loans can be used for various purposes, including debt consolidation, home improvement expenses, wedding costs, unexpected medical expenses, moving expenses, funeral expenses, family planning, car repairs, and vacation
• Before you apply for a personal loan, you’ll want to consider how much money you want to borrow, how much you can afford to pay each month, how long you want to make payments, and whether or not you want to put up collateral.
How Do Personal Loans Work?
Personal loans are typically unsecured loans (meaning you don’t have to pledge an asset to secure the loan) that provide you with money you then pay back in regular installments over the term of the loan.
How Do You Get the Money?
The first step is applying for a personal loan (more on that below). After loan approval, the lender typically deposits the loan proceeds directly into the borrower’s bank account.
Repaying a Personal Loan
You repay a personal loan in monthly installments that go toward both principal and interest.
Typically, personal loans are amortized. This means the total amount you owe is divided into equal monthly payments over the term of the loan. Even though the total monthly payment remains the same, the amounts being directed to principal and interest will change each month. An amortization schedule can show you exactly how much of your payment is going towards paying down the principal and how much is being paid in interest.
Personal loans with longer terms may offer lower monthly payments, but cost more in interest over the life of the loan. A shorter-term personal loan can have higher monthly payments, but cost less overall in interest.
How Personal Loan Interest Rates Work
The interest rate on a personal loan is determined by the lender and is based on a number of factors, including the applicant’s financial history, income, debt, and credit score. Generally speaking, the better an applicant’s credit score, the better the chance they have to receive a lower interest rate on the loan. The higher the interest rate, the more money the loan will cost over its term.
Personal Loan Uses
Personal loans can be used for just about anything. That said, there are some common reasons people take out different types of personal loans, including:
While it’s not as simple as walking into a bank, asking for a loan, and walking out with a check, the application process for personal loans is relatively easy.
Before you apply for a personal loan, you’ll want to consider how much money you want to borrow, how much you can afford to pay each month, how long you want to make payments, and whether or not you want to put up collateral (though less common, some lenders offer secured personal loans). There may be other considerations for specific financial circumstances, which can vary from person to person.
Checking Your Own Credit
Because lenders will be looking closely at your creditworthiness, it’s a good idea to give your financial health a check-up before you begin the application process. You can get a free copy of your credit reports from the three main consumer credit bureaus — Equifax, Experian, and TransUnion — for free at AnnualCreditReport.com.
Once you get your reports, it’s a good idea to review them carefully and report for any errors. Correcting anything that isn’t accurate means your credit report will look as good as possible to lenders.
Comparing Loans
Just like shopping around for the best prices before making a large purchase, comparing lenders’ rates and terms is a smart move before the application process actually begins.
Here are some things to look for when researching lenders:
• How much do they lend on personal loans? If the amount you need to borrow doesn’t fall within the range offered by the lender, you may need to look elsewhere.
• Do they charge any fees or penalties? Some lenders charge an origination fee equal to a percentage of the loan amount to process your application. Some personal loans also have a prepayment penalty if you pay off your loan ahead of schedule.
• How are fees and penalties charged? Some lenders may roll any fees into the loan amount, which increases the total amount you’ll owe. Other lenders may deduct the fee amounts from the loan proceeds, so the amount you receive will be lower than the actual amount of the loan.
• Can I get prequalified so I’ll know what interest rate they might offer me? Prequalification involves the lender doing a soft pull on your credit report, which will not affect your credit score. This step will give the lender a sneak peek at your financial history so they can give you an estimated interest rate. Going through this process with multiple lenders is one way to compare rates and terms you may qualify for.
• What if I can’t make my loan payments due to financial hardship? Missed or late payments could result in late fees, affect your credit score, or lead to your account being sent to collections. Some lenders may offer protections for borrowers who have lost their job or are having difficulty making their payments for other reasons.
Applying for a Loan
When you’ve selected a lender, it’s time to submit the actual application. For an unsecured personal loan, lenders typically require:
• A photo ID
• Proof of address
• Proof of income or employment
Each lender has different requirements, though, so it’s important to carefully read and follow the lender’s application instructions. At this stage, the lender will usually do a hard credit check, which can have a small and temporary negative affect on your credit score.
Waiting for Approval
Once you’ve submitted the application and all required documents, it’s time to play the waiting game. Rest easy, though, because some personal loan approvals happen quickly — sometimes in just a day. More complicated applications could take a week or more.
Personal loans can range anywhere from $1,000 to $100,000, depending on the lender. Once you apply and are approved for the loan, you’ll receive the amount of money you were approved for in a lump sum, minus any origination fees that some lenders may charge. You then start paying back that money in installments which are set by the specific terms of your loan.
Types of Personal Loans
There are a variety of different types of personal loans. Factors like how much money you plan to borrow, your credit and financial history, and how much debt you already have will influence which type of personal loan is right for you. Here’s a look at some common personal loan options.
Unsecured vs Secured Personal Loans
An unsecured personal loan is the most common type of personal loan. Unsecured means the loan is not backed by collateral, like a house or car. The approval and interest rate you receive on an unsecured personal loan is mostly based on your creditworthiness.
Secured personal loans require an asset to be pledged to “secure” the loan. Think of a house when it comes to a mortgage loan, or a car when it comes to a car loan. If you fail to repay your loan, the lender can then seize the collateral.
Some banks offer secured personal loans that allow you to borrow against the equity of your car, personal savings, or other assets. Since secured loans are backed by an asset that the lender can seize if you default on the loan, they generally have a lower interest rate than an unsecured personal loan.
Funds may be disbursed the same day or within a week
Interest rates are typically lower compared to credit cards
No collateral required
Interest rates are typically lower compared to unsecured personal loans
Can be a good way to improve credit if payments are regular and on time
Tend to have a longer repayment period
Disadvantages
May need to meet minimum credit score requirements for approval
Interest rates may be higher compared to secured personal loans
Credit score may be negatively affected if borrower defaults
Collateral is required
Lender can seize the collateral if borrower defaults
Application and approval process may involves more steps
Fixed-Rate vs Variable-Rate Personal Loans
Most personal loans are typically fixed-rate loans, meaning your rate and monthly payment stay the same (or are fixed) for the life of the loan. Fixed-rate loans can make sense if you’re looking for something with consistent payments each month. A fixed-rate loan is also worth considering if you are concerned about rising interest rates on longer-term personal loans.
As the name suggests, the interest rate on a variable-rate loan can fluctuate over the life of the loan. Interest rates on this type of loan are tied to benchmark rates or indexes. Based on how the benchmark rate or index changes, the interest rate on a variable-rate loan will also change, directly affecting your monthly payment.
Generally, variable-rate loans carry lower annual percentage rates (APRs) and some have limits on how much the interest rate can rise or lower over a specific period, or even over the life of the loan. A variable-rate loan could be a good choice if you are taking out a small amount of money with a short repayment term.
Here are some pros and cons of variable-rate personal loans and fixed-rate personal loans. Choosing between variable vs. fixed rates will come down to personal preference and what you are approved for.
Variable-Rate Personal Loans
Fixed-Rate Personal Loans
Advantages
Loans often start out with a lower interest rate compared to fixed-rate loans
If benchmark rate goes down, interest rate on the loan also goes down
Flexible
Monthly payments are consistent
Can avoid rising interest rates
Easy to understand
Disadvantages
If benchmark rises, the cost of the loan also rises
Borrowers have a greater risk of defaulting on loan if the interest rate increases significantly
As interest rates change, so will the monthly payment
Won’t be able to take advantage of changes in interest rates
Interest rates tend to be higher compared to variable-rate loans
May pay more over time if you took out your loan when interest rates were high
Small vs Large Personal Loans
Just as personal loans are taken out for a variety of reasons, the dollar amount borrowed can vary, too.
A small personal loan, which is generally for $3,000 or less, typically has a lower APR than other types of short-term debt, such as payday loans. Many banks and other financial institutions have limits on the minimum amount they’ll lend. Some credit unions may offer alternatives to payday loans in an effort to help their members save money and avoid being stuck in a cycle of debt.
A large personal loan might be used to pay for major expenses such as home repair or remodeling, medical expenses, or an expensive life event, such as a wedding. Some lenders offer personal loans up to $100,000.
It’s important to keep in mind your ability to repay the loan when deciding how much to borrow. Here’s how small and large loans compare:
Small Personal Loan
Large Personal Loans
Advantages
Can use the money for a wide variety of purposes
Interest rates are typically lower compared to credit cards
Usually has better terms than payday loans
Can use the money for a wide variety of purposes
Greater ability to combine multiple credit card balances into one balance
Can be a good way to improve credit if payments are regular and on time
Disadvantages
Can often get a better interest rate with a larger loan
No grace period
Lenders may limit how much you can borrow
The larger the loan, the more debt you’re taking on
Increases your debt-to-income ratio
Lenders may limit how much you can borrow
What Personal Loan Lenders Look at in Your Application
When you apply for a loan, the lender typically considers your credit score, debt-to-income (DTI) ratio, and other factors.
Credit Score
A person’s credit score shows lenders what the theoretical likelihood of that person paying back a loan would be. Generally, the lower a person’s credit score, the more of a risk they are assumed to be. Conversely, the higher a person’s credit score, the lower a risk they are assumed to be — and the more likely they are to be approved for lower interest rates and higher loan amounts.
Debt-to-Income Ratio
Your DTI is a percentage that tells lenders how much money you spend on monthly debt payments versus how much money you have coming into your household. You can calculate your DTI by adding up your monthly minimum debt payments and dividing it by your monthly pretax income.
Lenders generally want to see a DTI of 35% to 40% or less but may make exceptions if you have good credit.
Credit History
Lenders will review your credit report for anything that might stand out as a risk for them. If there are a high number of inquiries on your credit report or if there were multiple debt accounts opened in a short time period, that might indicate high risk to a lender. Borrowers who are considered high risk may find it more difficult to get a loan and could pay higher interest rates.
Deciding If a Personal Loan Is Right for You
Not sure whether a personal loan makes sense for your situation? Here are some questions to ask yourself:
• Do I need the money quickly? If you do, then a personal loan might be a smart move.
• Can I afford the monthly payments? Before you take on any debt, it’s important to set a realistic plan on how you’ll repay what you owe.
• Do I already have a high amount of debt? Taking out a personal loan when you have significant debt can put a serious dent in your budget and savings goals. It can also increase your DTI, which lenders look at when reviewing your loan application.
• Do I have a “bad” credit score? If your credit score isn’t so great — FICO defines “bad” as 579 or below — then you may want to wait on taking out a loan and instead work on your credit.
• Does a personal loan offer the lowest interest rate of all the options available? It’s a good idea to shop around for the rate and terms that best fit your needs before you apply with a lender.
There may be times when you need help covering a big expense, but taking out a personal loan isn’t the best choice. Fortunately, there are alternative funding options. Here are a few you may want to explore:
Credit Cards
Like personal loans, credit cards offer a line of credit that can be used for a wide range of purposes. You may want to consider using a credit card if you have a smaller expense that you can pay off quickly.
Home Equity Line of Credit
If you own your home and have at least 20% equity, you may be able to get a home equity line of credit (HELOC). This option could be a smart move if you need to borrow a large amount of money or plan on having ongoing expenses, like those with a remodeling project.
401(k) Loan
If you have a financial emergency or want to pay off high-interest debt — and no other option is available — then you may want to consider borrowing from your 401(k). Keep in mind that you may face taxes and penalties when you withdraw the money, so be sure you understand how your plan works and what it allows.
💡 Quick Tip: While HELOCs may require an appraisal before you get approved, a SoFi home improvement loan does not. That means you can get approved and funded the same day.*
The Takeaway
Personal loans can offer flexibility when you’re looking for funds for a variety of uses, and typically have lower interest rates than credit cards. Depending on your financial needs and financial circumstances, there may be a personal loan that fits. Comparing multiple lenders is a good way to make sure you’re getting a personal loan that works for you.
Think twice before turning to high-interest credit cards. Consider a SoFi personal loan instead. SoFi offers competitive fixed rates and same-day funding. Checking your rate takes just a minute.
SoFi’s Personal Loan was named NerdWallet’s 2024 winner for Best Personal Loan overall.
FAQ
How do personal loan payments work?
Personal loans are typically repaid in monthly installments. When you take out a personal loan, you agree to repay the borrowed amount plus interest over a set period, usually through equal monthly payments. Each payment consists of a portion that goes towards reducing the principal balance and another portion that covers the interest charges. The loan agreement will specify the amount of each payment, the duration of the loan, and the interest rate.
What are the risks of a personal loan?
Personal loans come with certain risks that borrowers should be aware of. One risk is defaulting on the loan, which can lead to late fees, damage to your credit score, and even legal action from the lender. Another risk is needing to take on additional debt if you borrow more than you can afford to repay. In addition, personal loans may have higher interest rates compared to secured loans like mortgages or auto loans. It’s important to carefully consider your financial situation and ability to repay before taking on a personal loan.
What are the disadvantages of a personal loan?
Personal loans have a few potential disadvantages to consider. One is that they tend to have higher interest rates compared to loans secured by collateral. Personal loans may also have origination fees or other associated costs. Another potential disadvantage is that, should you miss payments or default on the loan, it could have a negative impact on your credit score.
Is a personal loan bad for your credit score?
A personal loan itself is not inherently bad for your credit score. In fact, when managed responsibly, a personal loan can have a positive impact on your credit. Making timely payments and paying off the loan as agreed can demonstrate your ability to handle debt responsibly, which can improve your credit profile. However, if you miss payments or default on the loan, it can have a negative affect on your credit. It’s important to borrow within your means, make payments on time, and consider the impact on your credit score before taking on a personal loan.
Does personal loan money go to your bank account?
Yes, when you are approved for a personal loan, the funds are typically deposited directly into your bank account. This allows you to have immediate access to the loan amount. The specific timeline for receiving the money may vary depending on the lender and the loan application process.
Do you get money right away from a personal loan?
The timing of receiving money from a personal loan can vary depending on the lender and their processes. Typically, you receive the money within five to seven business days of approval, and some lenders even offer same-day funding.
* Same-Day Personal Loan Funding: 82% of typical SoFi Personal Loan applications, excluding Direct Pay Personal Loans and Personal Loan refinance, from January 1, 2022 to January 1, 2023 that were signed before 7pm ET on a business day were funded the same day.
SoFi Loan Products
SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC). For additional product-specific legal and licensing information, see SoFi.com/legal. Equal Housing Lender.
Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.
Non affiliation: SoFi isn’t affiliated with any of the companies highlighted in this article.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Bonds can make up an important part of a diversified portfolio, but there can be diversity within bonds as well. For instance, corporate bonds are one type of debt security that may offer higher returns than government bonds, but they might also come with higher.
What Is a Corporate Bond?
A bond is a debt security that functions much like an IOU. Governments and companies issue bonds as a way to raise capital. For example, a state might issue bonds to build a new bridge, and the U.S. Treasury issues Treasury Bills (T-Bills) to cover its expenses.
Corporations also sell bonds to raise capital. They might use the money raised through these financial securities to reinvest in their business, pay down debts, or even buy other companies.
When investors buy corporate bonds, they are loaning a company money for a set period of time. In exchange, the company agrees to pay interest throughout the agreed upon period. When this time is up and the bond reaches “maturity,” the issuer will return the principal. If a company can’t make interest payments or return the principal at the end of the period, they default on the bond.
How Do Corporate Bonds Work?
Bonds are a huge part of the broader securities markets. U.S. fixed income markets comprise 41.3% of global securities. To understand the bond market and how bonds work, you need to know a few important terms:
• Issuer: The entity using bonds to raise money.
• Par Value: Also known as the nominal or face value of the bond, or the principal, the par value is the amount the bond issuers promise to repay when the bond reaches maturity. This amount does not fluctuate over the life of the bond.
• Price: A bond’s price is the amount an investor pays for a bond in the market. This amount can change based on market factors.
• Coupon rate: Also known as coupon yield, the coupon rate is the annual interest rate paid by the bond issuers based on the bond’s par value.
• Maturity: The date at which a bond’s issuer must repay the original bond value to the bondholder.
Benefits and Drawbacks of Corporate Bonds
While corporate bonds can add a lot of benefits to a portfolio, before investing, it’s important to consider the drawbacks, as well.
Benefits
Drawbacks
Bonds, including corporate bonds, can be an important part of a diversified portfolio.
Bonds may offer lower returns than other securities, such as stocks.
MMany investors consider corporate bonds to be a riskier investment than government bonds, such as U.S. Treasuries. As a result, they tend to offer higher interest rates.
If the issuer cannot make interest payments or repay the par value when the bond reaches maturity, the bond will go into default. If an issuer goes bankrupt, bondholders may have some claim on the company’s assets and possibly be able to recoup some of their losses.
Bonds are relatively liquid, meaning it is easy to buy and sell them on the market.
Some bonds are “callable”, which means issuers can choose to pay them back early. When that happens, bond holders won’t earn as much interest and will have to find a new place to reinvest.
💡 Quick Tip: Did you know that opening a brokerage account typically doesn’t come with any setup costs? Often, the only requirement to open a brokerage account — aside from providing personal details — is making an initial deposit.
Types of Corporate Bonds
There are three main ways to categorize corporate bonds:
Duration
This category reflects the bond’s maturity, which may range from one to 30 years. There are three maturity lengths:
• Short-term: Maturity of within three years.
• Medium-term: Maturity of four to 10 years.
• Long-term: Maturity of more than 10 years. Longer-term bonds typically offer the highest interest rates.
Risk
Every once in a while, a corporation defaults its bonds. The likeliness of default impacts a company’s creditworthiness and investors should consider it before purchasing a bond. Bond ratings, assigned by credit rating agencies, can help investors understand this risk.
Bonds can be rated as:
• Investment grade: Companies and bonds rated investment grade are unlikely to default. High-rated corporate bonds typically pay a slightly higher rate than government securities.
• Non-investment grade: Non-investment grade bonds are more likely to default. Because they are riskier, non-investment grade bonds tend to offer a higher interest rate and are often known as high-yield bonds.
Interest Payment
Investors may also categorize bonds based on the type of interest rate they offer.
• Fixed rate: With a fixed rate bond, the coupon rate stays the same over the life of the bond.
• Floating rate: Bonds that offer floating rates readjust interest rates periodically, such as every six months. The floating rate depends on market interest rates.
• Zero-coupon bonds: These bonds have no interest rate. Instead, when a bond reaches maturity, the issuer makes a single payment that’s higher than purchase price.
• Convertible bonds:Convertible bonds act like regular bonds with a coupon payment and a promise to repay the principal. However, they also give bondholders the option to convert their bonds into company stock according to a given ratio.
Difference Between Corporate Bonds and Stocks
Bonds differ from other types of investments in a number of important ways. When investors buy stocks, they are buying ownership shares in the company. Share prices may fluctuate depending on the markets and the health of the company. If the company does well, the stock price may rise, and the investor can sell their shares at a profit. Additionally, some companies share profits with their shareholders in the form of dividends.
When an investor purchases a corporate bond, on the other hand, they do not own a piece of the company. The bondholder is only entitled to interest and the principal. Those amounts don’t change based on company profits or the stock price. When a company goes bankrupt, bondholders have priority over stockholders when it comes to claims on the issuer’s assets.
💡 Quick Tip: Before opening an investment account, know your investment objectives, time horizon, and risk tolerance. These fundamentals will help keep your strategy on track and with the aim of meeting your goals.
How to Buy Corporate Bonds
Investors can buy individual bonds through brokerage firms or banks. Corporations typically issue them in increments of $1,000. Much like investing in an initial public offering, it can be tricky for retail investors to get in on newly issued bonds. Investors may need a relationship with the organization that’s managing the offering. However, investors can also purchase individual bonds on the secondary market.
Another way to gain access to the bond market is by purchasing bond funds, including mutual funds and exchange-traded funds (ETFs) that invest in bonds. These funds can be a good way to diversify a bond portfolio as they typically hold a diverse basket of bonds that tracks a bond index or a certain sector.
Investors can purchase bonds through a traditional brokerage account or an Individual Retirement Account. They may be able to purchase bond funds through their 401(k), and possibly individual bonds through a brokerage window within the 401(k).
Before buying bonds, it’s important that individuals consider how they’ll fit in with their financial goals, risk tolerance, and time horizon. For example, if you’re working toward retirement and have decades to save, you may want a portfolio that’s mostly stocks since stocks generally tend to outperform bonds in the long run. If you’re close to your goal — or have a low appetite for risk — you may want to stick with bonds.
Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).
Invest with as little as $5 with a SoFi Active Investing account.
Photo credit: iStock/Prostock-Studio
Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below:
Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.
Restricted stock units, or RSUs, are a form of equity compensation offered to employees of a company. They’re similar to, but distinct from, employee stock options (ESOs).
You are probably pretty familiar with many of the standard offers in a job compensation package. When receiving an offer letter from a potential new employer, employees could typically receive a salary figure, paid vacation and sick day allowances, some type of health insurance, and, possibly, a retirement plan. RSUs and ESOs can be yet another part of that package.
What Is a Restricted Stock Unit?
Restricted stock units are a type of compensation offered to employees in the form of company stock. RSUs are not technically stock, though; they are a specific amount of promised stock shares that the employee will receive at a future date, or across many future dates.
Restricted stock units are a type of financial incentive for employees, similar to a bonus, since employees typically receive promised stock shares only when they complete specific tasks or achieve significant work milestones or anniversaries. Again, RSUs are different from employee stock options, too.
RSU Advantages and Disadvantages
Among the key advantages of RSUs are, as mentioned, that they provide an incentive for employees to remain with a company. For employers, other advantages include relatively small administrative costs, and a delay in share dilution.
As for disadvantages, RSUs can be included in income calculations for an employee’s income taxes (more on this below), and they don’t provide dividends to employees, either. They also don’t come with voting rights, which some employees may not like.
💡 Quick Tip: The best stock trading app? That’s a personal preference, of course. Generally speaking, though, a great app is one with an intuitive interface and powerful features to help make trades quickly and easily.
Know the Dates: Grant and Vesting
In the case of RSU stock, there are two important dates to keep in mind: the grant date and the vesting date.
Grant Date
A grant date refers to the exact day a company pledges to grant an employee company stock.
Employees don’t own granted company stock starting on the grant date; rather, they must wait for the stock shares to vest before claiming full ownership and deciding to sell, hold, or diversify stock earnings.
Vesting Date
The vesting date refers to the exact day that the promised company stock shares vest Employees receive their RSUs according to a vesting schedule that is determined by the employer. Factors such as employment length and specific job performance goals can affect a vesting schedule.
The employer that wants to incentivize a long-term commitment to the company, for example, might tailor the RSU vesting schedule to reflect the employee’s tenure at the company. In other words, RSUs would only vest after an employee has pledged their time and hard work to the company for a certain number of years, or the vested percentage of total RSUs could increase over time.
If there are tangible milestones that the employee must achieve, the employer could organize the vesting schedule around those specific accomplishments, too.
RSU Vesting Examples
Typically, the vesting schedule of RSU stock occurs on either a cliff schedule or a graded schedule. If you leave your position at the company before your RSU shares vest, you generally forfeit the right to collect on the remaining restricted stock units.
On a graded vesting schedule, an employee would keep the amount of RSUs already vested, but would forfeit leftover shares. If that same employee is on a cliff vesting schedule and their shares have not yet vested, then they no longer have the right to their restricted stock units.
Cliff Schedule
A cliff schedule means that 100% of the RSUs vest at once. For example, if you receive 4,000 RSUs at the beginning of your job, on a cliff vesting schedule you would receive all 4,000 on one date.
Graded Vesting Schedule
With a graded schedule, you would only receive a portion of those 4,000 RSUs at a time. For example, you could receive 25% of your RSUs once you’ve hit your two-year company anniversary, 25% more after five years at the company, 25% more after seven years, and the final 25% after 10 years.
Alternatively, a graded vesting schedule might include varying intervals between vesting dates. For example, you could receive 25% of your 4,000 total RSUs after three years at the company, and then the remainder of your shares (3,000) could vest every month over the next three years at 100 per month.
Are Restricted Stock Units Risky?
As with any investment, there is always a level of uncertainty associated with RSUs. Even companies that are rapidly growing and have appreciating stock values can collapse at any time. While you do not have to spend money to purchase RSUs, the stock will eventually become part of your portfolio (as long as you stay with the company until they vest), and their value could change significantly over time.
If you end up owning a lot of stock in your company through your RSUs, you may also face concentration risk. Changes to your company can not only impact your salary but the RSU stock performance. Therefore, if the company is struggling, you could lose value in your portfolio at the same time that your income becomes less secure.
Diversifying your portfolio can help you minimize the risk of overexposure to your company. A good rule of thumb is to consider diversifying your holdings if more than 10% of your net worth is tied up with your company. Holding over 10% of your assets with your firm exposes you to more risk of loss. When calculating how much exposure you have, include assets such as:
• RSUs
• Stock
• Other equity-based compensation
Are Restricted Stock Units Reported on My W-2?
Yes, restricted stock units are reported on your W-2.
The biggest difference between restricted stock units and employee stock options lies in the way that the Internal Revenue Service taxes them. While you owe tax on ESOs the moment you decide to exercise your options, RSU stock taxation happens at the time of vesting. Essentially, the IRS considers restricted stock units supplemental income.
RSU Tax Implications
When your RSUs vest, your employer will withhold taxes on them, just as they withhold taxes on your income during every pay period. The market value of the shares at the time of vesting appears on your W-2, meaning that you must pay normal payroll taxes, such as Social Security and Medicare, on them.
In some cases, your employer will withhold a smaller percentage on your RSU stock than what they withhold on your wages. What’s more, this taxation is only at the federal level and doesn’t account for any state taxes.
Since vested RSUs are considered supplemental income, they could bump you up to a higher income tax bracket and make you subject to higher taxes. If your company does not withhold enough money at the time of vesting, you may have to make up the difference at tax time, to either the IRS or your state.
So, it might be beneficial to plan ahead and come up with a strategy to manage the consequences of your RSUs on your taxes. Talking to a tax or financial professional before or right after your RSU shares vest could help you anticipate future complications and set yourself up for success come tax season.
How to Handle RSUs
If you work for a public company, that means that you can decide whether to sell or hold them. There are advantages to both options, depending on your individual financial profile.
Sell
Selling your vested RSU stock shares might help you minimize the investment risk of stock concentration. A concentrated stock position occurs when you invest a substantial portion of your assets in one investment or sector, rather than spreading out your investments and diversifying your portfolio.
Even if you are confident your company will continue to grow, stock market volatility means there’s always a risk that you could lose a portion of your portfolio in the event of a sudden downturn.
There is added risk when concentration occurs with RSU stock, since both your regular income and your stock depend on the success of the same company. If you lose your job and your company’s stock starts to depreciate at the same time, you could find yourself in a tight spot.
Selling some or all of your vested RSU shares and investing the cash elsewhere in different types of investments could minimize your overall risk.
Another option is to sell your vested RSU shares and keep the cash proceeds.. This might be a good choice if you have a financial goal that requires a large sum of money right away, like a car or house down payment, or maybe you’d like to pay off a big chunk of debt. You can also sell some of your RSUs to cover the tax bill that they create.
Hold
Holding onto your vested RSU shares might be a good strategy if you believe your company’s stock value will increase, especially in the short term. By holding out for a better price in the future, you could receive higher proceeds when you sell later, and grow the value of your portfolio in the meantime.
RSUs and Private Companies
How to handle RSUs at private companies can be more complicated, since there’s not always a liquid market where you can buy or sell your shares. Some private companies also use a “double-trigger” vesting schedule, in which shares don’t vest until the company has a liquidity event, such as an initial public offering or a buyout.
The Takeaway
RSUs are similar to stock options for employees. Your specific financial goals, the amount of debt you may hold, the other types of investments you might be making, are all factors to consider when weighing the pros and cons of selling or holding your RSU shares.
Perhaps the most pertinent thing to keep in mind, though, is that everyone’s financial situation is different – as so is their respective investing strategy. If you have RSU shares, it may be worthwhile to speak with a financial professional for advice and guidance.
Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).
For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.
FAQ
What is the difference between restricted stock units and stock options?
Restricted shares or restricted stock is stock that is under some sort of sales restriction, whereas stock options grant the holder the choice as to whether or not to buy a stock.
Do restricted stock units carry voting rights?
Restricted stock units do not carry voting rights, but the shares or stock itself may carry voting rights once the units vest.
How do RSUs work at private vs public companies?
One example of how RSUs may differ from private rather than public companies is in the vesting requirements. While public companies may have a single vesting requirement for RSUs, private companies may have two or more.
SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below:
Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Claw Promotion: Customer must fund their Active Invest account with at least $25 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.
