Net Unrealized Appreciation (NUA): The Secret Tax Weapon for Company Stock in Your 401(k)
CORE INSIGHTS
- Tax Arbitrage: NUA allows you to pay low capital gains rates on stock appreciation instead of high ordinary income rates.
- Basis Taxation: You only pay ordinary income tax on the original cost basis of the stock at the time of distribution.
- Strict Rules: Execution requires a qualifying event and a total “Lump-Sum Distribution” of the entire 401(k) balance within one tax year.
Holding company stock inside a 401(k) is generally discouraged due to concentration risk, but it offers a unique tax benefit: Net Unrealized Appreciation (NUA). This IRS provision allows employees to separate the stock’s cost basis from its growth, applying favorable Capital Gains Tax rates to the appreciation. For long-term employees with highly appreciated stock, NUA can save six figures in taxes.
An employee has $1M in company stock with a cost basis of $100k.
• Standard Rollover to IRA: The entire $1M is eventually taxed as ordinary income (up to 37% rate).
• NUA Strategy: Pay ordinary tax on $100k now. The remaining $900k is taxed at long-term capital gains rates (0-20%).
Result: The tax savings on the $900k growth can exceed $150,000 depending on the tax bracket gap.
Visualizing the Tax Savings
Data confirms that as the gap between the Cost Basis and Market Value widens, the tax advantage of NUA increases exponentially.
*Figure 1: Tax Liability Comparison: Standard IRA Withdrawal vs. NUA Strategy.*
Expert Insight:
NUA is not always the right choice. If the cost basis is high (e.g., you bought the stock recently), paying immediate tax on the basis may outweigh the future capital gains benefit. The rule of thumb: The NUA (appreciation) should be significantly larger than the cost basis.
| Feature | Standard IRA Rollover | NUA Election |
|---|---|---|
| Immediate Tax? | No (Tax-Deferred) | Yes (On Cost Basis only) |
| Future Tax Rate | Ordinary Income (10-37%) | Capital Gains (0-20%) |
| RMD Impact | Full Value Subject to RMDs | Only IRA portion (Stock is excluded) |
Strategic Action Steps for Execution
You must meet one of the IRS conditions: Separation from service, reaching age 59½, disability, or death. Without this, NUA is unavailable.
In a single tax year, you must empty the 401(k). Roll non-stock assets to an IRA and move company stock to a Taxable Brokerage Account (in-kind transfer).
Be prepared to pay ordinary income tax on the cost basis in the year of transfer. Do not use the stock itself to pay this tax; use outside cash to maximize the NUA holding.
The Bottom Line: Who Should Choose What?
- Choose NUA: Investors with highly appreciated company stock (Cost Basis < 30% of Market Value) who have outside cash to pay the immediate tax bill.
- Choose Rollover: Investors with high cost basis or those who want to defer all taxes as long as possible and diversify out of a concentrated stock position immediately.
Frequently Asked Questions
NUA allows you to pay Long-Term Capital Gains tax (typically 15% or 20%) on the appreciation of company stock, rather than the much higher Ordinary Income tax rates (up to 37%) that apply to standard 401(k) distributions.
To qualify for NUA, you must distribute the entire balance of your 401(k) plan within a single tax year. You cannot leave any assets behind in the plan, although non-stock assets can be rolled over to an IRA.
The cost basis of the company stock is taxed as ordinary income in the year of the distribution. The NUA (growth) is taxed as capital gains only when you eventually sell the stock.