Anthony Saffer VP / Financial Advisor CFP®, CKA®,

Alex Okugawa  / Financial Advisor CFP®, CKA®, CEPA® 

Alex Okugawa 0:00
If you have employer stock in your 401k, and you’re leaving employment either due to retirement or something else, there’s a little-known strategy that could save you thousands of dollars in taxes. Stay tuned.

Alex Okugawa 0:22
So, Anthony, many employees have stock in their 401k. And an often overlooked strategy is called net unrealized appreciation. The common acronym is NUA, can you tell us a little bit about that?

Anthony Saffer 0:35
Yeah, simply rolling over the money from your 401k into your IRA may not always be as simple as first thought. Net unrealized appreciation allows you to distribute the stock generally to a taxable brokerage account, you basically keep it and it can provide really well for tax purposes.

Alex Okugawa 0:53
Now, of course, when we’re talking about rollovers, you wrote a post on rollovers pointing out that they’re not always as straightforward as it seems it’s not always just pre-tax money to an IRA, there might be multiple layer layers and levels involved here.

Anthony Saffer 1:06
Yeah, so if we’re talking about Net Unrealized Appreciation with employer stock, we first have to look and say, Okay, well, what of my money is pre-tax, I received a tax deduction on it. And that’s what the article addresses is that money needs to go over to a Traditional IRA, then you have your Roth money, which goes to your Roth, your after-tax, which is a tad bit complicated, explains it in the post. But if you have employer stock, then you have to be looking at doing the research to see if NUA makes sense.

Alex Okugawa 1:32
Now, again, with NUA, you mentioned this earlier, but when you use this strategy, essentially, you’re taking the stock, and you’re gonna put it into what’s called like a non qualified, taxable investment account, right. So totally different and separate from an IRA. But it does go into a different type of account,

Anthony Saffer 1:48
Right, so you’re keeping the stock, at least temporarily. And so here’s an example of it, let’s say you have a million dollars in your 401k, you have $50,000, that’s in actual employer stock. What you want to find out is, what did I pay for that stock, if my cost basis is like $5,000, then you pull, they distribute the stock, and that $5,000 of cost basis is is taxed right away.

Alex Okugawa 2:13
Your’e not completely missing all tax.

Anthony Saffer 2:15
You’re not completely missing it. That $5,000 is taxed as ordinary income tax level. But where the benefit comes in is all the earnings $45,000, in this case, is at a long term capital gains rate, which is lower.

Alex Okugawa 2:26
Which at current rates is much lower than, you know, traditional ordinary income rates. So again, at least for me, the key here is that you’re not completely avoiding tax, you’re actually like changing the tax nature of how this company stock will be taxed. And of course, there’s a lot of rules with the NUA treatment. Michael Kitces has written a great article on that, which we will link to, but maybe we can talk about just a couple of the rules to be aware of and think about with the NUA strategy.

Anthony Saffer 2:56
So here are the things to look for. And the example that I gave one is low-cost basis, right? If I paid a little bit for it, and it’s grown a lot. That’s a good leaning towards doing the NBA. Because if you flip the numbers, and you said, Well, I paid 45,000 for it, but only 5000 of earnings. Yeah, that would be ordinary income tax on the much larger amount

Alex Okugawa 3:14
you and it’s all at once, right. So it could push you up into a higher tax bracket. And that’s something you’d want to do.

Anthony Saffer 3:18
The second thing you want to consider are early withdrawal penalties. If you are younger than age 55, which is where it applies in a 401k. Then there are early withdrawal penalties for that amount of money. So if you pull out that $50,000 worth of stock, you’re not only paying, you know, the ordinary income tax that we talked about, but early withdrawal penalties applies,

Alex Okugawa 3:40
Which again, it’s why these rules are so important, because off the cuff, you know, you go Okay, well, I’m taking my stock, and I’m putting it into another account, my hands aren’t touching the money. They’re just going into another account. So technically, I shouldn’t be taxed on it?? And that’s not necessarily the case. You have to know the rules.

Anthony Saffer 3:55
Yeah, people do get surprised at the early withdrawal penalties, which is why you gotta pay attention to it. And the third thing is stock concentration. So if you have a lot of stock within your 401k I mean, that’s maybe a decision that you made in the beginning, but now you’re pulling it all out, or, you know, keeping it basically and you still have that stock for potentially a while. Yeah, you know, if you’re not going to sell it right away. And so then you have to be thinking, Okay, I’m going into retirement, or even if you’re changing jobs, do I really want to keep this amount of stock?

Alex Okugawa 4:23
Does that concentration makes sense if I might need to be taking income from it.

Anthony Saffer 4:28
Yeah you can’t just make the decision solely on the tax and not think about the investment part.

Alex Okugawa 4:31
Absolutely. And of course, there’s a lot more involved than simply this quick video that we’re going through. But I think the main takeaway here is this is an incredibly powerful strategy for folks to basically pay less tax over their lifetime, right? Why pay more tax then you need to. There is a little bit of effort, research, and due diligence involved in this strategy. So it does take time, but especially if you have a financial advisor or you know this stuff really well it can be well worth the time and effort to really lower your lifetime tax bill. This is the kind of stuff that we help folks with, especially young professionals working in spaces where they get employer stock, if you’d like to give us a call or visit our website we’d love to talk with you.

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