Is this Employee Stock Purchase Plan worth it when adding my student loan into the equation?
Here are the details of my company's Employee Stock Purchase Plan:
An automatic 5% purchase discount off the fair market value of the stock.
Payroll deductions start on July 1st.
The stock purchase occurs on December 31st.
I don't like holding single stocks, so I was planning on selling the stock right away for an automatic 5% profit. However, I do the math, and come up with the following:
Because of a 25% short-term capital gain tax, that 5% profit becomes a 3.75% profit (25% tax on 5%).
Because of the purchase period, all that money I put in (starting July 1st) will take 6 months (until December 31st) to return the 3.75% profit (which is when the purchase and immediate sale happens), resulting in about a 7.5% annual return (3.75% * 2).
On the other side of the spectrum, I have a student loan with an 8% annual interest rate I'm paying off as fast as possible.
Wouldn't putting all of this money towards repaying the student loan instead result in a slightly higher return (through interest rate savings) with none of the hassle?
What am I missing?
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The closer the contribution is to the December 31st date, the more profitable that specific contribution is, only taking into consideration the 5% discount. On your case, the first contribution that beats your student loans interest rate is the August one, where you get about 9% annual return, the remaining contributions go up from there.
It's 5% free money, if you believe the company's stock is fairly valued and likely to grow and/or return reasonable dividends until you're ready to sell it. There's usually a minimum holding period of a few months to a year before these discounted shares can be sold; take that into account
In many ESPP programs (i.e. every one I've had the opportunity to be a part of in my career), your purchase is at a discount from the lower of the stock prices at the start and end of the period. So a before-tax 5% return is the minimum you should expect; if the price of the stock appreciates between July 1 and December 31, you benefit from that gain as well.
More concretely: Stock closes at /share on July 1, and /share on December 31. The plan buys for you at .50/share. If you sell immediately, you clear .50/share in profit, or a nearly 16% pre-tax gain.
If the price declines instead of increases, though, you still see that 5% guaranteed profit. Combine that with the fact that you're contributing every paycheck, not all at once at the start, and your implied annual rate of return starts to look pretty good. So if it was me, I'd pay the minimum on the student loan and put the excess into the ESPP.
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