If You Own Amex Stock in Your 401(k), You Should Learn About NUA

If you hold American Express (Amex) stock in your 401(k), specifically in the Amex Company Stock Fund, you may have access to a little-known tax strategy called Net Unrealized Appreciation (NUA). Used correctly, this rule could reduce the taxes you owe in retirement. But like most things, timing and planning are everything.

The Basics

When you normally take a lump sum distribution from the RSP, it will be taxable to you at ordinary income tax rates.  Therefore, the preferred action is to execute a direct rollover to an IRA which avoids that taxation.  Eventually, when you take distributions from the IRA, they will be at ordinary income tax rates (Special rules apply to Roth IRAs). But what if your 401(k) includes shares of Amex stock that have appreciated in value? That’s where NUA strategy could be beneficial.

What Is NUA (Net Unrealized Appreciation)?

If you meet certain conditions, the IRS allows you to take those Amex shares “in-kind” (instead of rolling them into an IRA), and you’ll only pay ordinary income tax on the cost basis (what the stock was worth when purchased inside the plan). The rest of the value, your net unrealized appreciation, will be taxed later, and only at long-term capital gains rates, which are typically lower.

Let’s Look at an Example

Here’s what happens:

• You pay ordinary income tax on just $40,000 when you receive your “in kind” distribution of shares.

• If you hold the shares and later sell them for, say, $600,000, the remaining gain ($560,000) is taxed at long-term capital gains rates.

• Applying today’s ordinary tax rates of 37% and long-term capital gains rate of 23.8%, the tax savings would be about $74,000.

For most retiring executives, long-term capital gains tax rates are lower than ordinary income tax rates.  Of course, an analysis of your personal tax rates prior to making a distribution decision is highly recommended.

Who Can Use the NUA Strategy?

To qualify, all of the following must be true:

• You take a lump-sum distribution (entire balance of all qualified Amex retirement plans) in one tax year

• You take the distribution after one of these events:

• Age 59½

• Separation from service

• Death

• Disability

Is NUA Right for You?

NUA makes the most sense when the American Express stock has substantially appreciated in the RSP.  The lower the cost basis in the shares the more tax advantageous the strategy. The difference between the tax rates on ordinary income and capital gains is also a factor. The greater the differential between the rates the more attractive the strategy looks. There are other factors to consider such as the liquidity of your retirement assets, your time horizon and your risk tolerance level.

Final Thoughts

The NUA strategy is one of those rare tax planning tools that can create meaningful value when timed correctly.

If you need help determining if this applies to you and how to take advantage of this tax-saving strategy, schedule your complimentary consultation today!