Generally speaking, the special tax rules available for Net Unrealized Appreciation (NUA) apply when a qualified retirement plan pays out employer stock, in kind, to a participant. Because shares of Company stock usually have a low employer cost, NUA is a powerful planning tool available for retirees.
The key benefit of NUA treatment is the ability to have the appreciation in value between the Company's cost and the fair market value of the stock at distribution taxed at the favorable long-term capital gain rates at the time the stock is sold. Typically, retirement distributions are taxed as ordinary income at the taxpayer's highest marginal tax rate. The combination of deferral and lower tax rates can have a significant impact on a retirement income plan.
The Zero Basis Rollout Method provides retirees with additional tax deferral of NUA and the potential for tax free income when it is part of a coordinated family wealth plan.
The HCM NUA Optimizer™ is a tool to help retirees better understand when the benefits of NUA will enhance their retirement income plan and make it more tax efficient. In addition, the HCM NUA Optimizer™ helps avoid some of the traps in this complex decision.
Making the right decision does matter. A retiree holding a significant block of stock may be tempted to hold the shares in order to defer taxes. This may be “penny wise and pound foolish.” The right decision, from a diversification and asset allocation perspective, may be to diversify some of the shares in order to reduce investment risk. Those who are not sufficiently capitalized to fund their retirement income plan should not look at NUA as a significant part of their retirement strategy.
Picking the right shares matters. Typically, preferred shares have a much higher potential to generate NUA and the related benefits. Those with significant preferred shareholdings should consider the NUA option.
Individuals with an immediate need for cash will clearly benefit from the NUA rules as distributions that are immediately liquidated will be taxed at lower capital gains rates. Alternatively, amounts rolled over and taken from an IRA or as ad-hoc distributions will be taxed at ordinary income tax rates which can be significantly higher