[b][u]Scenario[/u][/b]

Say that a client who is eligible to contribute to a ROTH IRA in 2010 wishes to fund the contribution with shares of stock. The stock to fund this contribution was purchased more than a year ago for a price of $3,000. The market value of the stock is now $5,000. Therefore the unrealized gain is $2,000.

[b][u]Question:[/u][/b]

Assume this contribution is made per the above. Let’s also assume that the requirements are met for a tax-free distribution (i.e. 5 year test). What happens to the $2,000 unrealized gain that, if the stock was [i]not[/i] contributed to the ROTH IRA, would most likely be taxed at the capital gain rate when sold? Does the unrealized gain just disappear? Or is the character of the $2,000 unrealized gain (i.e. capital gain) somehow preserved even if these shares are now inside the ROTH IRA?

Thanks for your help!