Confused by NUA Tax Rules for 2020?

Now that 2020 is in full swing, what does the new decade mean for NUA tax rules? What’s new? What could you have missed as it relates to distribution decisions for your P&G PST Plan?

Before diving into the NUA strategy yourself, let us provide a quick refresher and cover what it entails. 

What Is Net Unrealized Appreciation?

Briefly, Net Unrealized Appreciation, or NUA, is a distribution strategy that may be used to take advantage of the difference between the original cost and the current market value of employer stock held inside a qualified retirement plan. Retirement plan distributions using the Net Unrealized Appreciation strategy may be taxed differently than normal retirement plan distributions or IRA rollovers.

Knowing the differences in tax treatment depending on what method you choose to make your retirement plan distributions is critical. Using NUA as part of your PST Plan distribution strategy can be rewarding, but it can also be complex, and it’s not necessarily the right strategy for everyone.

You’ll want to thoroughly understand current and future tax implications, your ability to diversify, and asset growth implications before making any distribution decisions.

State of the Union

You’ll first want to evaluate current tax laws and whether NUA rules are still available for you to use. Tax laws change often, so it’s important to stay on top of any changes that may relate to NUA tax treatment.

For now, employees or former employees of certain company retirement plans may use the Net Unrealized Appreciation strategy as a potentially tax advantaged distribution method when taking money out of certain company retirement plans.

The NUA strategy only works if you have company stock in your employer sponsored retirement plan. If you do have company stock in your plan, you may have multiple distribution options available to use upon your retirement.

Choosing the distribution method or methods you’ll use for your retirement benefits is a big decision and each method has advantages and disadvantages.  Thoroughly evaluating how different decision paths may impact your goals is imperative.

What’s All the Fuss About?

What is so special about the NUA distribution strategy?  The short answer is, it has potential tax advantages. Let’s look at a simplified example.

Imagine an employee with $1 million in a company retirement plan that is funded only with employer company stock. Let’s further imagine that the cost basis on the employee’s $1 million retirement plan is $100,000. In other words, the total cost basis of the employer shares in the employee’s plan add up to $100,000. Now let’s imagine that the employee decides to use the NUA strategy to distribute the entire value of his or her plan.

In this specific situation, the employee’s $100,000 cost basis may be subject to ordinary income tax and the remaining $900,000 of value may be subject to capital gain tax rates.

Looking at 2020 federal income tax tables, maximum capital gain tax rates are 20% and maximum ordinary income rates are 37%.  So, depending on this employee’s total taxable income and filing method (single, married filing jointly, married filing separately, head of household, etc…), a large portion of this employee’s plan may be subject to the much lower capital gain tax rates. Furthermore, the larger $900,000 capital gain portion of the employees distribution is only subject to taxation when the employee sells some or all of those shares.   

In real life, it may not be quite so simple. Maybe the cost basis on employer shares is not substantially different from the current value of the shares, maybe the employer shares have been diversified into other investments, or maybe it makes sense to make a tax deferred rollover distribution of some or all of the plan assets. 

Bringing it all Together

P&G employees have some great employee benefits, one of which is the PST Plan.  Inside your PST Plan is a hidden benefit that may be advantageous when taking your retirement benefits.

Using the NUA strategy for a portion of your PST Plan may provide certain tax advantages and it may help you meet near-term funding goals like paying off a mortgage or buying a second home.

When planning for your retirement, determining whether to use the NUA strategy and how to use it, are really important considerations.  

The decision depends on your financial situation, your goals, your expected longevity, tax rates at the time of the distribution, employer stock cost basis, and more. In short, it’s a big decision that requires significant thought, a comprehensive financial plan and a thorough analysis of your situation.

If you are at all uncertain about what you should do and you’d like to partner with a financial professional, Schmitt Wealth Advisers is at your service. We’ve worked with colleagues of yours who have many of the same questions. Getting it right alone can be overwhelming, but getting a partner on board is simple. Click here to call or email us and start planning today.

This material was prepared by a third party for use by Schmitt Wealth Advisers, LLC., and is for informational purposes only.  It is not intended to serve as a substitute for personalized investment advice or as a recommendation or solicitation of any particular security, strategy or investment product.  Data presented herein has been obtained from sources believed to be reliable.  Schmitt Wealth Advisers, LLC, however, cannot guarantee the accuracy or completeness of such information, and certain information may have been condensed or summarized from its original source.  Schmitt Wealth Advisers, LLC, nor its investment adviser representatives gives tax or legal advice. Company benefits change periodically. Always consult with your employer for the most current benefits prior to making any decisions.