How Much Employer Stock Should You Own?

Rob Russell

Loyalty, these days, seems to be a rare commodity. But there seems to be one area where people still remain loyal: owning stock of their employer. Whether it’s General Electric or Procter & Gamble, employees of large and strong companies love them some employer stock. Is this seemingly rational (or emotional) notion a good idea? If so, how much of your employer stock should you own in your portfolio?

Reasons You Own Employer Stock:

Stock After working with retirees of the aforementioned companies, among others, they tend to own large amounts of their company stocks for several reasons:

1. Familiarity with the inner workings of the company (compared to the fear of the unknown in other investment choices).
2. Past strong performance (specifically companies like P&G).
3. Unfortunately, this can lead to hind-sight bias and may lead to disastrous surprises.
4. A false sense of control because you can potentially contribute to the well-being of the company.
5. A discounted stock purchase price.
6. Blind loyalty or emotional attachment.

Dangers You’re Exposed To:

The flipside of owning large amounts of employer stock include dangers such as:

1.  Lack of diversification and outsized exposure to one single investment.
2. Fraud or bankruptcy. Just ask employees at General Motors, Enron, Lehman Brothers, Bear Sterns, Kodak, or WorldCom. They never thought it would happen to them either.
3. Opportunity cost, or the cost or lost benefit of investing in employer stock rather than other better-performing investments).
4. An incomplete investment strategy. You only make money when the stock goes up, but happens when the market goes down?
5. Company specific threats. A hostile takeover, change of leadership, or a shift in corporate culture can blindside you and have a dramatically negative impact on your wealth, especially as you approach retirement.

Taking all of the above into account, I still think it makes good sense to own some employer stock. The question becomes, “How much should I own?” Or better yet, “What’s the maximum percentage of my assets that should be held in company stock?” Contrary to what many advisors and planners espouse, I think a maximum allocation to employer stock should be 10-15 percent of your investable assets.

The Biggest Benefit No One Talks About

One huge (and rarely discussed) benefit of owning a sizeable position in employer stock is a special tax loophole known as Net Unrealized Appreciation. In essence, it allows a former employee to potentially convert their company stock from being fully taxed as income to being taxed as a capital gain. Obviously, given the choice one would much rather pay capital gains tax than ordinary income tax!

This strategy works very well when you have highly appreciated employer stock—you only pay income tax on the basis (total cost you paid for the stock) and then you pay capital gains on the difference between the cost versus the current value.

Whatever you decide to do with your employer stock, make sure you can sleep at night knowing that one day you could wake up to headlines touting your employer as the new poster child for financial mismanagement.

Robert Russell is the author of Retirement Held Hostage, CEO & CIO of the Ohio-based Russell & Company, a private wealth management firm specializing in helping affluent individuals ages 45 and up create and preserve their wealth. He co-hosts Retirement Rescue Radio, authors The Rob Report blog, and is a frequent contributor to The Wall Street Journal, SmartMoney, & FOX Business.

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