If you are holding Lockheed Martin stock in your 401k, Net Unrealized Appreciation (NUA) is a tax strategy that can be particularly advantageous. Understanding and utilizing NUA can potentially lead to significant tax savings, especially if the stock has appreciated substantially. Here’s a step-by-step explanation of how it works and how a Lockheed Martin employee might take advantage:
What is Net Unrealized Appreciation (NUA)?
NUA is the difference between the original purchase price of employer stock in a retirement plan and its current market value. When you distribute company stock from your 401(k) and transfer it to a taxable account, the NUA can be taxed more favorably compared to regular distributions.
How NUA Works for Lockheed Employees:
- Eligibility for Distribution: The first step is to determine if you are eligible for a distribution from your 401(k). Common qualifying events include reaching retirement age (usually 59½), leaving the company, or other triggering events like disability or plan termination.
2. Distribution of Shares: Instead of rolling over your Lockheed stock into an IRA, you would transfer the shares to a taxable brokerage account. This triggers a taxable event, but only on the cost basis of the shares, not their current market value.
3. Tax Implications at Distribution:
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Cost Basis: The cost basis of the stock (what you originally paid for it within the 401(k)) is taxed as ordinary income in the year you make the distribution.
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Net Unrealized Appreciation: The NUA, or the growth in value from the original purchase price to the current market value, is not taxed at this point. It will only be taxed when you eventually sell the stock, and importantly, it is taxed at long-term capital gains rates, which are generally lower than ordinary income tax rates.
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4. Selling the Stock: When you decide to sell the stock, the NUA is taxed at the long-term capital gains rate. If any additional gains are accrued after the stock was distributed to you and before you sell it, those gains are taxed as either short-term or long-term capital gains, depending on the holding period.
Advantages of Using NUA
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Tax Savings: The main benefit of using NUA is the potential tax savings on the growth of the stock. Since long-term capital gains rates (0%, 15%, or 20%) are typically lower than ordinary income tax rates, you can save a significant amount in taxes, particularly if the stock has appreciated substantially.
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Flexibility: By transferring the Lockheed stock into a taxable account, you have more flexibility in terms of when you sell the stock and realize the gains.
Considerations Before Using NUA
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Market Risks: Holding a large portion of wealth in a single stock exposes you to higher volatility and risk. It’s important to consider your overall investment portfolio and risk tolerance.
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Tax Planning: Implementing NUA should be done with careful tax planning. Missteps can lead to unintended tax consequences so make sure this is right for your personal situation and consult a tax professional.
If you would like more information feel free to reach out (warren@luminaryfinancialadvisors.com).
