What is 'Unconditional Vesting'

Unconditional vesting is a status reached by an employee, whereby benefits given conditionally are fully realized and cannot be revoked. Vesting, in the sense of a retirement plan, means ownership. Benefits which have vested are owned by the employee fully. Workers may be required to stay with a company for a number of years, or fulfill other requirements before benefits become unconditionally vested.

BREAKING DOWN 'Unconditional Vesting'

Unconditional vesting is a status that is bestowed upon employees for meeting certain requirements, like length-of-service requirements. Since a company uses pensions as a tool for long-term retention of employees, a worker's entitlement to present or future pension benefits may be contingent upon continued employment with the company for a specified period. Once this condition is satisfied, the pension benefits vest unconditionally with the employee.

For example, an employer offers a 401(k), defined-contribution retirement plan to its employees. To incentivize employees staying with the firm for a long period of time, the employer pays contributions into the account every month, but these contributions don’t become fully vested initially. Instead, the employer doles out benefits using a 5-year graded vesting schedule, with the worker earning 20 percent of the paid benefits each year they work. After four years in this example, 80 percent of the money paid into the account would belong to the worker, if the worker leaves the company for another employer. 80 percent of that money would be unconditionally vested.

Cliff Vesting vs. Graded Vesting

Employers will offer conditional benefits using cliff vesting or graded vesting methods. With cliff vesting, benefits become unconditionally vested all at once. For instance, a worker may receive stock options after serving for a certain number of years. Under the graded vesting method, benefits will become unconditionally vested gradually over time, or as certain milestones are met.

Unconditional Vesting and the Taxation of Benefits

Employees are not typically required to pay taxes on unconditionally vested benefits, because those benefits are typically tax free to begin with. For instance, contributions paid to employees' retirement accounts, like a 401(k), are not taxed by the IRS and therefore go untaxed when those benefits vest. Stock-option incentives also go untaxed when they vest, though you may pay capital gains taxes on stocks sold after the option is exercised. In the case of non-statutory stock options, you will pay tax on the difference between the strike price of the option and the market price when the option is exercised.

  1. Vested Benefit

    A financial incentive granted to employees who have met the required ...
  2. Graduated Vesting

    Graduated vesting is the acceleration of benefits that employees ...
  3. Cliff Vesting

    In cliff vesting, employees receive full benefits from their ...
  4. Vest Fleece

    Vest fleece is a slang term used to describe a situation in which ...
  5. Stock Compensation

    Stock compensation refers to the practice of giving employees ...
  6. Employee Stock Option - ESO

    An employee stock option offers specified employees the right ...
Related Articles
  1. Personal Finance

    Understanding Your Employee Stock Options

    The real value of a stock option lies in the percentage the stock options represent in the company and how quickly they vest.
  2. Retirement

    Five Questions to Ask About Your Company's 401(k) Plan

    Having a comfortable retirement depends on taking maximum advantage of your company's 401(k), if it's offered.
  3. Taxes

    Is HD Vest Financial Services Right for You?

    Here's what you need to know about HD Vest Financial Services.
  4. Retirement

    A Guide to Employee Stock Option Plans

    Stock option plans are among the ways employers can compensate employees. Here's how they work.
  5. Retirement

    5 Key Features of 401(k) Plans

    Understanding your 401(k) options and making the right decisions can have a big impact on your retirement savings.
  6. Investing

    Understanding Your Employee Stock Options

    To make the most of employee stock options it's key to understand their risks, tax consequences and how they fit into your financial plan.
  7. Investing

    Why Selling Your Restricted Stock Units Makes Sense

    Sell your restricted stock units as they vest, because not everyone can be the janitor at Microsoft.
  8. Financial Advisor

    Understanding Rules on Defined Benefit Pension Plans

    Defined benefit plans offer advantages to both employers and employees. Employers must understand the federal tax rules when establishing these plans.
Trading Center