Code U and NUA Strategy

Submitted by Sharon williams on Sun, 2019-09-01 06:01

My employer sent out a dividend payout on my company stock this month and says the payout will be a CODE U. The employer says that Code U (Payout of Dividend) is not considered a distribution and will not affect my ability to utilize the NUA strategy down the road.

I am not 100% confident that the payout of dividend this year will not be considered a “prior year distribution” down the road when I elect to utilize NUA and, thus, disqualify me from using NUA.

Also, I can find no definitive answer as to what ORIGINAL COST BASIS is defined as per the IRS when discussing NUA. Most places I read state “the cost when the shares were placed in the account – i.e., ORIGINAL. However, my employer says they will report all reinvested dividends in the cost basis. Which is correct?

Thank you.



Submitted by David Mertz on Sun, 2019-09-01 15:14

  • I believe that the employer is correct on both counts.
  • With regard to Code U payments, see this earlier discussion where the IRS ruled in PLR 9947041 that such distributions were not intervening distributions with regard to lump sum distributions.
  • https://irahelp.com/forum-post/24734-nua-and-dividend-payout-401k
  • With regard to reinvested dividends being treated as part of the cost basis, this makes sense to me.  Reinvesting a dividend paid by the employer shares involves an additional purchase of employer shares.  If the plan tracks the cost basis of individual purchase lots each lot could have a different cost basis, but the total cost basis would include the cost basis of each of the employer shares in the account.

Submitted by Alan - IRA critic on Sun, 2019-09-01 15:23

  • Code U indicates the distribution of code 404k dividends. According to IRS PLR 1999 47041 attached below, these dividends are NOT treated as intervening distributions for determining if the LSD is qualified. 
  • https://www.irs.gov/pub/irs-wd/9947041.pdf
  • To qualify for NUA, you must complete a qualified LSD from all similar plans of the employer. These dividends were paid by the ESOP, but you might also have a 401k holding non ESOP employer shares. Which dividends were reinvested?  404k dividends are usually paid to you in cash, but there is also a provision in 404k allowing reinvestment. If reinvestments are made in employer shares, the reinvestment is included in the cost basis for calculating the amount of NUA. Since such reinvestments are periodic they can increase the cost basis compared to the much older shares purchased. 
  • Therefore, what your employer indicates is correct. Should you decide to utilize NUA based on the quoted cost basis per share, I suggest you discontinue reinvesting any dividends into more shares. In addition to compromising diversification, continued reinvestment will complicate tracking of the cost basis of your NUA shares once they reach your taxable brokerage account.
  • Finally, in determining what your quoted cost basis is per share, find out whether the company uses average cost, or breaks the shares down into individual lots purchased at different times. That may allow you to select only the lowest cost basis shares for your LSD. And if you also purchased company shares in a 401k outside the ESOP, determine if any of those shares were purchased with after tax contributions. If so, you should determine where the plan applies these after tax contributions. Often the plan just reduces the taxable cost basis (box 2a of the 1099R reporting the share distribution), but in many cases you would be better off if you could roll the after tax contributions to your Roth IRA instead of applying it to the NUA shares.

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