NUA 401k Distribution tax rules
Does anyone know painfully detailed rules on Net Unrealized Appreciation 401k distribution tax laws in terms of rollovers?
If I take a 401k distribution of company stock that is then sold after the distribution, and then rollover a large portion of the distribution into an IRA, how does the balance that I don’t rollover get taxed?
According to the IRS, the cost basis is taxed as normal income, but the sale of the stock is taxed as capital gains. If, for example, the cost basis is $200k and capital gains are $100k, can I put $200k into an IRA, and just pay taxes on the remaining $100k? What would the IRA think the source of the $100k is? Would it be 2/3 is cost basis, and 1/3 is capital gains, or can I claim the entire $100k I keep out is all capital gains?
Permalink Submitted by Alan - IRA critic on Fri, 2022-03-25 17:52
Your NUA cost basis is per share, not aggregate. Unless you need much of the 300k within the next couple of years, NUA is not worthwhile with a cost basis % as high as your example (67%). Typically, the cost basis should be under 30% to make NUA worthwhile compared to a total rollover to an IRA.
If NUA is worthwhile, you do not have to use all the shares for NUA. You can rollover the shares you do not want to use for NUA into an IRA, and only use the remaining shares for NUA with a cost basis per share. If that is what you plan, it is better to roll over the shares you do not want to use directly from the plan to an IRA instead of distributing them to a taxable brokerage as shares. But if you do distribute them to a taxable brokerage account as shares, you can still do a 60 day rollover of those shares to an IRA to defer all taxes on those shares rolled over.
Again, due to immediate loss of tax deferral unless you need cash very soon, your cost basis % for each share should be much lower than 67%, usually under 30%.
Permalink Submitted by David Childs on Fri, 2022-03-25 18:15
Only employees can hold employer stock. They force either the sale of the stock inside the 401k at the once a year buy or sell stock period, or they allow a PUT option to distribute all of the shares to a taxable account during that period the year after departure, and force the immediate sale of the stock. They will supply a 1099-R showing the total distribution and the cost basis.
Permalink Submitted by Alan - IRA critic on Fri, 2022-03-25 22:28
Ok, this is not unusual. But it forces you to report the cap gain sale as well as the cost basis in the LSD year or following year, which eliminates tax deferral. The question then becomes if the amount of NUA v. the cost basis is worth the loss of tax deferral and having the cash value of these shares reside in taxable instead of tax deferred going forward. To be clear, for any given share of stock you distribute and report NUA, you cannot roll the proceeds over to an IRA. Therefore, your final decision is whether to sell within the plan or have the shares distributed subject to the put option.
Permalink Submitted by David Childs on Fri, 2022-03-25 23:16
The information from the company states: If you elect the Put Option, after you receive the check you can still decide to roll it all or part of the distribution over to another qualified plan or IRA, but must do so within 60 days of the date of the check.
Permalink Submitted by Alan - IRA critic on Sat, 2022-03-26 00:10
Yes, so you have the option of having the shares distributed to you and sold back. You could roll over all or some of the proceeds to an IRA, but for any given share you are either reporting a rollover or the taxable cost basis and NUA for any share sold where you do not roll over the proceeds. In other words, for a specific share you are either doing a 60 day rollover or reporting the cost basis and NUA on your return.
Going back to the question in your first post, if you roll over the sale proceeds of 2/3 of the value, the 1/3 you keep (100k) would be reported as 66,667 of ordinary income and 33,333 of LT CG. You could not report the 100k you keep as all cap gain, characterizing the 200k as all ordinary income.
Not sure if this answers your question or not.
Permalink Submitted by David Childs on Sat, 2022-03-26 03:41
Thank you, that’s the info I needed. I was planning to put the $200k into an IRA, and maybe some of the remaining $100k into a Roth, but it sounds like I’ll pay income tax on $66.7k and capital gains on $33.3k if I do that, even if I put any of the remaining in a Roth, or keep it.
Permalink Submitted by David Childs on Mon, 2022-03-28 03:18
Looking at the cost basis of all the stock I purchased, can I put $220k of the smaller capital gains shares (cost and gains) into an IRA, and take advantage of the $80k larger capital gains portion, which is closer to $40k cost basis and $40k capital gains, and put that $80k into a Roth, and just pay the tax on the $40k as income, and the other $40k as long term capital gains?
Permalink Submitted by Alan - IRA critic on Mon, 2022-03-28 04:06
Most plans use average cost for all shares, but a few maintain different cost basis for different lots. You will need some documentation from the plan if the plan distributes shares with different cost basis amounts. You cannot do this on your own even if you have the records. Most participants in plans that maintain different cost basis lots will sell the higher cost basis shares in the plan prior to distribution to avoid the IRS asking you to justify your tax reporting for shares that were distributed.
Any shares that have been sold and the proceeds rolled into either type of IRA cannot use NUA to report cap gains. You can only apply NUA to shares that you do not roll any part of the sale proceeds to any type of IRA, that is you apply the proceeds within a taxable brokerage account. Any proceeds that you roll into a Roth IRA must be reported as ordinary income including the portion that would have been cap gain if you did not roll the proceeds into the Roth IRA.
I would start by asking the plan if they use the average cost basis for all shares and if not what documentation they can provide you to account for the shares distributed and sold back to the plan.
Permalink Submitted by David Childs on Mon, 2022-03-28 13:56
I do have a breakdown of all of the stock purchases, including prices of shares from profit sharing, and employee purchases, in the 401k documents. Is there a tax advisor we can be pointed to that can help us do this according to IRS rules?
Permalink Submitted by David Childs on Mon, 2022-04-11 04:59
If I have 1000 shares of company stock that I purchased at $50, and 1000 shares I purchased at $100, can I rollover 100% of the shares purchased at $100, and something like 50% of the shares purchased at $50? This leaves me with a cost of $25,000 (500 @ $50) and if the stock is currently at $150, a long term capital gain of $50,000 (500 @ $150 – cost). I have records of the purchases, all of the shares were distributed to a taxable account, sold at the current value, and I am still in the 60 day rollover window.