When it comes to employee equity, whether to sell, buy or hold is a constant question. But if you’re an executive, director or employee with access to material nonpublic information (MNPI), there’s another consideration: A routine trade could look like insider trading, even if it happens during an open trading window.
With a 10b5-1 plan, divesting out of your company shares becomes an automated process. Here’s what to know about the plan, considerations for setting one up and common mistakes to prepare for.
What is a Rule 10b5-1 plan?
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With a 10b5-1 plan, trading terms are locked in ahead of time – how many shares will be traded, for example, at what price and on what dates. The plan also defines how these details are decided, such as if they’re pre-set, or if a formula, algorithm or computer program will calculate when shares will be traded.
Importantly, when the plan is put into place, the individual must certify that they hold no MNPI, and are adopting and will continue the plan in good faith. For directors and officers, trading can’t begin until 90 days after adopting the plan, or two business days after the company discloses financial results for the quarter in which the plan was adopted (this can’t exceed 120 days).
For other employees, the cooling off period is 30 days. There’s also a mandatory cooling-off period between the execution of a plan and the first sale.
“You’re ceding control,” says Aaron Brickley, a certified financial planner at Brickley Wealth Management in San Mateo, California. “You’re developing a plan for how to handle your shares, and that plan will unfold per the schedule you’ve set.
There’s a lot of coordination happening with a 10b5-1 plan. From your company’s insider trading policy, you’ll likely know which broker (a financial institution, such as Charles Schwab or Morgan Stanley) to work with to help plan and later execute your 10b5-1 plan. Your company’s general counsel will also play a part, ensuring that the plan follows SEC guidelines and various requirements.
Advantages of a 10b5-1 plan
One of the main purposes of a 10b5-1 plan is to provide an affirmative defense against insider trading.
People may think you bought because you knew the stock was going to go up, or that you sold because you knew the stock was probably going to go down, says Brickley. “The 10b5-1 plan gives you space from that.”
Another important advantage with the 10b5-1 plan is how it automates selling, and even allows for selling company shares during blackout periods.
“If you are someone who gets stock options and stock equity [compensation] in general, it’s very common to have some type of concentrated stock position,” says Angela Moore, a certified financial planner at Fruitful and based in Orlando, Florida. “And if you’re dealing with blackout periods, it becomes kind of complicated.”
She recalls how she’s seen corporate employees accumulate stocks over the course of their career, but when it’s time for a major financial milestone, like marriage or purchasing a home, there are complications.
“[They] want to take some money out, but now there’s a huge tax gain, or the stock’s gone down, and it’s not an ideal time to sell,” she says. “And so managing that concentrated stock position year after year in a strategic and systematic way is extremely important.”
For these reasons, she considers herself a strong proponent of 10b5-1 plans and thinks everyone should know about them. “It’s way better, in my opinion, than you trying to execute stocks on your own during an open trading window,” says Moore.
That’s a third advantage with a 10b5-1 plan: It removes the emotional side of selling shares.
“Some people have a tough time selling company stock,” says Brickley. “‘The stock’s been up, I don’t want to sell; I think it’s going to go up more.’ ‘Or the stock’s going down, I don’t want to sell; I want to wait for it to recover.’ And that can keep happening.”
“It might also be a big transaction,” he says. “That might be overwhelming for some people.”
What to consider when creating a 10b5-1 plan
A 10b5-1 plan is not an investment strategy, but a way to express it. To know how you want to sell your company shares, you first have to know what equity you have and what your goals are.
She then considers the broader picture, such as their current income, state of residence and tax rate.
“A lot of clients will already have in mind what they plan on doing with that money,” says Moore. “So [I] also ask about their goals: What are some things you’re planning or that you would like to plan around?”
With this prep work complete, a sell strategy can start to take shape. If your financial goals have a timeline and target amount, that will shape your sell strategy differently than if your main goal is stock diversification and you don’t have an immediate need for liquidity.
In reviewing what it means for your equity, this is where a 10b5-1 plan can get detailed. “When you draw up a plan, there will be an appendix where you specify the shares, when they were acquired, when you want to sell them, at what price,” Brickley explains. And if the trades don’t get triggered, you can decide whether to forgo the current month or roll the shares into the next month.
However, Brickley warns that it’s easy to get caught up in the plan details, and forget your goals and why you’re making this plan in the first place.
He offers this last piece of advice: “With most things, financial or not, the more complex you make things, the more likely they may be to break,” he says, “So it’s always a rule of thumb … to have it as simple as possible and only as complex as it needs to be.”
Common mistakes with a 10b5-1 plan
Trading outside of the plan while it’s active. Once your 10b5-1 plan is in place, it should be the only way you trade company stock. “You have a plan, you’re not going and selling a single share on your own,” says Brickley.
You also can’t have multiple trading plans during the same period. Only one plan can exist at a time, with overlap only permitted if the second plan starts after the first plan’s completion date and cooling periods have passed.
Cancelling or modifying a plan that’s already running. Along those same lines, while it’s possible to make changes or cancel an existing plan, doing so is highly discouraged.
“The whole point of a 10b5-1 plan is to provide a defense against insider trading,” says Brickley. “And so canceling or modifying while it’s in place weakens that defense. The best practice is to enter a plan and have it run until completion.”
If this is your first time creating a 10b5-1 plan and you’re uncertain of how it will go, Brickley suggests using that first plan as a trial, getting comfortable with it, and then revisiting.
“When you enter into a plan, it’ll end at some point and you’ll have to enter it again,” he says. “So your second plan doesn’t need to look like your first. Maybe take some things you’ve learned and apply them to your next plan.”
Letting the calendar create a gap. Most companies only allow 10b5-1 plans to be started during open trading windows, and once created, there are mandatory cooling off periods before the plan can even start trading.
These rules mean you can’t wait until your current 10b5-1 plan ends to begin planning the next one. To avoid gaps in trading, Brickley says he starts the plan design for the next plan halfway through the current plan.
“It’s so that you have continuity between the two plans,” he says. “So when that first plan terminates and ends, the new plan’s going to come right in force.”
Setting a price target that’s out of reach. For Brickley, he considers setting a price too high as the biggest mistake. “People anchor to the highest the stock has ever been, or have hopes of it doubling,” he says. “But if the stock’s a penny off, it won’t trade.”And if the plan never trades, you never diversify from your company stock and reach your financial goals.
It’s natural to want the most value out of selling your shares. If the stock is rising, you may hold in the hopes that it continues to go up. If the stock is dropping, you may hold in the hopes it rebounds.
Brickley offers this perspective: “You are never going to sell at the top,” he says, “and you almost hope that you don’t.” He explains that since most employees will likely continue to participate in equity and may not be selling everything they have, they would want the stock price to increase. And on the flip side, if they did sell at a high, that would mean the stock fell and is not coming back up.
One way to be realistic in a 10b5-1 plan is to set multiples. “You could have shares get sold at one price target and have them successively go up,” Brickley says, noting it could work well for individuals who don’t have a specific dollar amount or cash need.
Believing you have to go at it alone. There is a lot of coordination when it comes to setting up a 10b5-1 plan, starting with the broker and your company’s legal department. But there’s also the aspect of how it makes sense with your own financial future.
“Having the right team in place is important,” says Brickley. “You have the advisory side who’s doing the planning and the investment, and you have your tax side who’s being mindful of these transactions and able to look at the tax impact.”
For Brickley, the biggest sign of a well-executed 10b5-1 plan isn’t the plan design but the sense of relief his clients feel after they’ve done all the preparation, articulated their goals and put something in place.
“It’s a real weight off their shoulders,” he says. “And I think that’s the biggest positive for me.”
About the author
June Sham is a lead writer on NerdWallet’s investing and taxes team covering retirement and personal finance. She is a licensed insurance producer, and previously was an insurance writer for Bankrate specializing in home, auto and life insurance. She earned her Bachelor of Arts in creative writing at the University of California, Riverside.
