What Is an ESPP and How Does It Fit Into Your Financial Picture?
When used correctly, an ESPP can be a powerful tool for generating predictable returns and building long-term wealth.
When used correctly, an ESPP can be a powerful tool for generating predictable returns and building long-term wealth.
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If your company offers an Employee Stock Purchase Plan (ESPP), you’re in luck! An ESPP can be a low-risk way to build wealth and take advantage of company growth, often with almost guaranteed returns, if used correctly. Even better, you can set up a system where the profits fund future contributions, allowing your ESPP to run on cruise control without draining your cash flow beyond the initial investment.
That said, there are some things to consider before jumping in. In this post, we’ll walk through what an ESPP is, how it works, and tips for getting the most out of it.
What Is an ESPP?
An Employee Stock Purchase Plan (ESPP) allows you to buy company stock at a discount, typically between 5% to 15%, using after-tax payroll deductions. This type of plan offers employees a way to grow their savings by investing in their own company, with the potential for returns over time.
Here’s how it generally works:
- Enrollment Period:
You choose how much of your paycheck to allocate toward buying stock, typically up to a certain limit (e.g., 10%-15% of your salary). There’s also an annual cap—$25,000 in 2025—on the total value of shares you can buy through the plan. - Offering Period:
During this window (usually six months or more), your ESPP contributions are withheld from your paycheck and held in a separate account. - Purchase Date:
At the end of the offering period, your saved contributions are used to buy company stock at a discount.
Bonus Feature: Some ESPPs offer a lookback provision, meaning the discount applies to the lower of the stock price at the start or end of the offering period. If your company’s stock price rises during this time, this feature can boost your returns significantly.
The Benefits of an ESPP
The most obvious advantage of an ESPP is the ability to buy company stock at a discount. That immediate discount gives you an edge right from the start, allowing your money to potentially grow faster than if you invested elsewhere.
This benefit can be magnified with a lookback provision. For example, let’s say that your ESPP does have a lookback provision, offers a 15% discount, and the stock price is $10 at the start of the offering period.
If the stock price falls to $5 by the end of the offering period, you’ll be able to purchase it for $4.25 per share (a 15% discount on the current $5 price). This is a great deal that gives you an immediate 15% return on investment.
But if the stock price rises to $20, you’ll be able to purchase it for $8.50 per share (a 15% discount on the original $10 price). That equates to a 57.5% return on investment, which means you’ve just recognized a huge gain!
Not all ESPPs work the same way, so you’ll have to read through your plan documentation to get the details on your specific plan.
How is an ESPP taxed?
How your ESPP proceeds are taxed depends on when you sell your shares.
If you sell them within one year of the purchase, the amount attributable to the discount will be considered ordinary income and taxed at your regular income tax rate, and any gains will be considered short-term capital gain and also taxed at your regular income rate.
If you hold your shares for at least one year after the purchase date (and two years after the offering date), the discount will still count as ordinary income but any gains are considered long-term capital gains, which are generally taxed at lower rates than ordinary income.
It can be tempting to hold onto your shares with the goal of getting the favorable long-term capital gains treatment, but that’s often not the best move. Having a lot of money invested in any single company’s stock is generally risky, and it’s even more so when it’s your employer’s stock and you already have a lot of financial risk tied to the company.
Plus, there are some pretty cool ways to use that ESPP money if you’re willing to sell right away, such as…
How to Make Your ESPP Self-Funding
This is our favorite thing about ESPPs.
If you do it right, you can make your ESPP a self-perpetuating, return-generating machine that funds itself once you get it going with your initial contributions. Here’s how it works.
Let’s say that you’re paid twice per month, you contribute $500 per paycheck to your ESPP, and that each offering period is six months long. During that first offering period, you have to be able to afford the contributions yourself. $500 will be taken out of each paycheck and set aside to purchase your ESPP shares.
However, once that six-month offering period is up and your first round of shares is purchased, you can do the following:
- Immediately sell your shares. This will give you at least $6,000 in proceeds, but with a 15% discount it would be $7,058, and it could be more if the share price has increased.
- Transfer the proceeds to a savings account.
- Set up an automatic transfer of $500 from that savings account to your checking account, timed to coincide with your paycheck. This will offset the $500 being taken out of your paycheck, meaning you’ll have the same amount of money in your checking account as you would without a contribution, even though the contribution is still happening.
- Repeat at the end of every six month offering period.
- Since your ESPP proceeds are likely greater than your contributions, you can use the extra to either fund an increase in contributions or you can funnel it towards other savings and investment goals.
This is an incredibly powerful strategy that, when executed correctly, can provide almost guaranteed returns without any cost to you beyond the initial contributions.
1. Are Your Financial Basics Covered?
Before putting money into an ESPP, make sure you’ve:
- Built an emergency fund covering 3-6 months of expenses.
- Paid off high-interest debt (like credit card balances).
The potential gains from an ESPP are exciting, but they shouldn’t come at the expense of your financial security.
2. Are You Maximizing Retirement Accounts?
If your company offers a 401(k) match, take full advantage of that before contributing to an ESPP—it’s free money! Plus, 401(k)s and IRAs offer tax benefits that an ESPP doesn’t.
It’s also worth asking: Are you maxing out other tax-advantaged accounts, like a Roth or Traditional IRA? Diversifying through retirement accounts can reduce your risk and boost your long-term returns.
3. Are There Trading Restrictions on Your Company Stock?
Some companies limit when you can sell your ESPP shares, often restricting sales to specific trading windows. This creates a bit of risk—if the stock price drops before you’re allowed to sell, you could lose part of your gains.
Make sure you understand any restrictions on selling your shares. The longer you hold the stock, the more exposure you have to potential price fluctuations.
Using Your ESPP to Supercharge Your Plan
When used correctly, an ESPP can be a powerful tool for generating predictable returns and building long-term wealth. If you’ve already covered your other financial essentials—like emergency savings and debt management—and set it up to be self-funding, your ESPP can truly supercharge your financial plan.
Not sure if an ESPP is right for you or how to get the most out of it? Fruitful’s financial guides are here to help. We’ll provide personalized advice to make sure your ESPP aligns with your bigger financial goals—so you can reap the benefits without putting your progress at risk.
“Fruitful” refers to Fruitful, Inc. and its wholly-owned, affiliated, and separately managed subsidiaries, Fruitful Financial, LLC and Fruitful Advisory, LLC, an SEC-registered investment adviser. To learn more about Fruitful Advisory, LLC please view its Form ADV Part 2 and Form CRS available at www.adviserinfo.sec.gov. Registration with the SEC does not imply any level of skill or training.
This information is provided by Fruitful for educational and illustrative purposes only and is not considered an offer, solicitation of an offer, advice, or recommendation to buy, sell, or hold any security. All investing involves risk, including the risk of losing the money you invest and past performance does not guarantee future performance. Only members of Fruitful have access to products and services across the Fruitful affiliates and subsidiaries.
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Frequently Asked questions
How is personalized investing part of the Fruitful membership?
Fruitful is a financial wellness membership that provides access to:
1. Expert advice and support from a dedicated Fruitful Guide, who is a CERTIFIED FINANCIAL PLANNER™ Professional that helps with all aspects of your finances and builds you a tailor-made money system.
2. 5.00% APY1 Fruitful Cash Accounts where you earn on all your money, whether you plan to save or spend it.
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Why might this be better than other investing options?
Many available investing options can present challenges in a couple ways. You can either:
1) pay someone a lot in asset management fees to “manage” your investments, hopefully in line with your goals and risk tolerance; or,
2) go it on your own with robo advisors, hoping you clicked the right boxes to get the investments that align with your goals and risk tolerance immediately and over time.
Having a personal financial Guide advising on and supporting your decisions, combined with our streamlined process for setting up and scaling your investments means that you get a portfolio designed to meet your goals without confusion or the negative impact caused by management fees.
Wait, there are no management fees?
No, we don’t charge management fees on your investment accounts. Fruitful’s membership cost covers all member benefits. We think the absolute worst place for an investment firm to charge their fees is from your investment account because it can slow down the potential growth of your investments, and also requires that more of your portfolio is kept in cash (to be able to pay the fees) — potentially slowing it down even more. Translation - by removing the management fees the money you set aside for investing can be fully working for you, all the time, and your returns will not be eaten away by management fees, allowing them to grow more over time.
What investment options do I have?
Your Fruitful Guide will work with you to recommend the account type and asset allocation that’s right for you based on several factors, including your goals, risk tolerance, and future plans. Our investment approach is data-backed and straightforward. We build low-cost, highly-diversified portfolios primarily using exchange-traded funds (ETFs) and index funds, and may include some mutual funds. Individual stocks and bonds are not included in Fruitful’s investment strategies.
What are the advantages of using Fruitful vs. a robo-advisor?
Robo-advisors often make portfolio recommendations without the full context of your larger financial picture and how that changes over time. For instance, if you told a robo-advisor you have $10k to invest in a brokerage and need the money in 15 years, it might recommend an asset allocation that addresses only that information. That may not be helpful and aligned with the other parts of your financial roadmap. Fruitful believes it’s important to take a step back and ask, “Hey, what else is going on? Do you have credit card debt to pay down, are you buying a house soon, how have you been saving for retirement?” Our financial Guides help you navigate decision making at every step by understanding your entire financial world and optimizing your investment approach accordingly.
How are the investment approaches and portfolios built?
Our Guides tailor members' investment approaches to their personal goals, lifestyles, timelines, and risk-tolerances. Our portfolios are built from a carefully curated list of low-cost index, mutual, and exchange traded funds to minimize expenses and maximize diversification, providing members with broad exposure to different asset classes including domestic, non-US developed, and emerging stocks as well as corporate, government, and international bonds. Our core aim? Striking the risk-reward balance that's right for each member and their unique financial journey.
How do the Fruitful Guides help?
Your financial Guide is like your holistic financial wellness guru — they get a picture of your entire financial life, what’s going on now, and what’s coming down the pipeline to determine how to optimally allocate and invest your money to balance the many priorities you may be juggling. Your Guide will help you choose the right approach based on your goals, tolerance for risk, and timeline, among other factors.
Can I change my investment strategy over time?
Yes, and this is expected and accommodated as your financial goals and priorities shift over time. Your investment strategy is a part of your larger financial strategy that you and your Guide will work on together.
What kinds of accounts are available to Fruitful Members?
Fruitful supports and manages individual, joint, and trust non-retirement accounts as well as Roth, traditional, rollover, simple, and SEP IRAs. We can also provide strategy, ongoing advice, and support on investments not directly managed by us. Fruitful also offers a high-yield cash account. Learn more here.
What are the expense ratios on Fruitful portfolios?
An expense ratio is a yearly fee that mutual, index, and exchange-traded funds charge. If a fund has a 1% expense ratio, you're shelling out $1 for every $100 you put in. High fees can eat into your returns big time. Fruitful managed investment portfolios have an average expense ratio of just 0.048%. That’s really low - around 1/10 of the average expense ratio across the fund industry, which was 0.47% in 2022.¹
¹Mutual fund and ETF expense ratio averages sourced from Vanguard. Link here.
Can I transfer or rollover my existing investment accounts to Fruitful?
Yes! Talk to your Guide about this process and what it means for your current holdings. At Fruitful, our investment approach is built around diversification, so we don’t hold individual stocks or bonds in our Members’ accounts. Not only does this align with our advice, but it helps us keep our costs low and our service seamless. Any positions you transfer in will be sold and reallocated based on the asset allocation you determined with your Guide.
I currently own stock in my employer. Can I transfer that to Fruitful, too?
Our portfolios are designed around diversification using exchange-traded funds, index funds, and sometimes mutual funds. If you want to maintain some employer stock, you should keep that outside Fruitful. That said, your Guide may recommend diversifying some of those holdings, and in that case, you can make a transfer of some stock to Fruitful, where it can be sold and allocated based on your personalized portfolio.
Is my money safe?
Fruitful Cash accounts are held at our sponsor bank – Emigrant Bank, Member FDIC, which was founded in 1850, and is one of the largest privately held banks in the United States.
Fruitful is a financial technology company, not an FDIC-insured bank. Funds in your Fruitful Cash account(s) are held at Emigrant Bank, an FDIC-insured institution. While there, your funds are FDIC insured up to $250,000 and covered in the event of the failure of only Emigrant Bank. Fruitful must meet and satisfy certain conditions for pass-through deposit insurance coverage in the event of Emigrant Bank’s failure.
Fruitful Advisory, LLC, is an investment adviser registered with the U.S. Securities & Exchange Commission (“SEC”) that employs full-time Financial Guides, all of whom are investment adviser representatives and CERTIFIED FINANCIAL PLANNER™ professionals. Investments in member accounts are held at and cleared by APEX Clearing Corporation, member FINRA/SIPC, who custodies over $120 billion in total assets as of June 2023.4
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© Fruitful 2024 — All rights reserved. “Fruitful” refers to Fruitful, Inc. and its separate, affiliated subsidiaries. Fruitful, Inc. is an investment adviser registered with the U.S. Securities & Exchange Commission, offering investment advisory products and services exclusively to Members with an active Subscription. Learn more about Fruitful in our Form CRS.
This information is provided by Fruitful for educational and illustrative purposes only and is not considered an offer, solicitation of an offer, advice, or recommendation to buy, sell, or hold any security. All investing involves risk, including the risk of losing the money you invest, and past performance does not guarantee future performance. Rebalancing cannot assure a profit or protect against loss in a declining market. Fruitful relies on information from various sources believed to be reliable, including information from its Members, Clients, and other third parties, but cannot guarantee the accuracy or completeness of that information.
Fruitful is a financial technology company, not a bank. Deposit accounts provided by Emigrant Bank, Member FDIC. Funds in the bank accounts are insured for up to $250,000 per depositor, depending on the ownership category. Interest rates are variable and subject to change at any time. These rates are current as of July 18, 2024.
¹ The people in these videos are real Fruitful Members who were paid in cash for their time and participation in this series. We think that is fair. Each testimonial reflects the individual Member's experience as an advisory Client and is not intended to represent any other Member's or Client's experience. We believe in the integrity of this approach and that, outside the conflict of interest present due to compensation, no other conflicts apply to these testimonials. These Client testimonials were given in October 2023, represent the opinions of each Member at that time, and may have been edited for brevity and clarity.
² Cost of traditional advisory firms sourced from The Kitces Report, Volume 2, 2022, Figure 61. Distribution Of Typical Annual Retainer Fee.