Net unrealized appreciation (NUA)

The growth in value of employer stock inside a 401(k), which can be taxed at capital gains rates if the shares are taken out in a lump-sum distribution.

What it means

When a 401(k) or similar plan holds company stock, net unrealized appreciation is the difference between its current value and its cost basis in the plan. Normally all of it would be taxed as ordinary income when withdrawn. Under the NUA rules, the shares can instead be moved in kind to a taxable brokerage account as part of a lump-sum distribution of the whole plan balance within one tax year, after a triggering event such as leaving the job or reaching 59½.

Ordinary income tax is due on the cost basis now, and the 10% penalty may apply to that amount if under the eligible age. The appreciation is taxed at long-term capital gains rates when sold, regardless of how long the shares are held afterward. Growth after the distribution is taxed by its own holding period.

Example

Suppose company shares in a 401(k) have a $50,000 basis and are worth $300,000. At hypothetical 24% ordinary and 15% capital gains rates, NUA tax is $12,000 now plus $37,500 on sale, $49,500 in total, versus $72,000 if all were withdrawn as ordinary income.

How it’s used

Employees with highly appreciated company stock in a 401(k)
Planning a job change or retirement
Deciding whether to roll a plan to an IRA

Strengths and weaknesses

Strengths

Turns ordinary income into lower-taxed capital gains
Tax on appreciation is due only when shares are sold
Can reduce future required minimum distributions

Weaknesses

Tax on the basis is due immediately
Requires a strict all-at-once distribution
Keeps a concentrated single-stock position
NUA does not get a step-up in basis at death

Good to know

Rolling the plan to an IRA first ends the chance to use NUA treatment on those shares.

Educational information only, not financial, tax or legal advice. Rules, limits and rates change; check the IRS, your lender or plan, or a qualified professional before acting.