Don't Knock Taking Your Employer Stock
Given the growth of employee-employer savings to meet retirement
goals, it is not uncommon for employees to have a significant
amount of employer stock in their qualified retirement plans.
When it comes time for employees to leave the nest, most are
willing to directly rollover all qualified plan assets into a
traditional IRA. A traditional IRA rollover offers avoidance of
an immediate income tax consequence, the retiree remains in
control of his/her retirement assets and the benefits of tax
deferral can continue.
However, there may be another option available that should be
considered, a type of combination approach. This option involves
distributing employer stock to the retiree and directly rolling
over the remaining balance of the plan assets into a traditional
IRA. This combination approach, though not for everyone, may
have significant advantages.
By not including the employer stock in the traditional IRA
rollover, the retiree is exposed to income taxes immediately.
This is because he/she is receiving the shares as a taxable
distribution. However, the taxes due will be only on the cost
basis of the stock. Therefore, it's important to know what the
actual cost basis of your employer shares are in your retirement
plan. The cost basis is essentially what the plan Trustee paid
for the stock. Exposing the stock to taxes now may be more
advantageous in the long run because, in most cases, this cost
basis of the employer stock will be much lower compared to the
current market value.
The stock held outside the traditional IRA will continue to
defer taxes on any appreciation. When the retiree ultimately
decides to sell the shares, he/she will pay long-term capital
gain rates - currently capped at 15% - rather than at ordinary
income tax rates, which could run 35% or more. In addition,
there are no minimum distribution requirements starting at age
70 1/2 or other nasty penalty taxes for this block of employer
stock, allowing for more planning flexibility.
And lastly, the retiree's heirs may miss out on another big tax
break. If these same shares of employer stock were rolled into a
traditional IRA, the heirs would ultimately owe ordinary income
taxes on the employer stock, as they would on any asset held in
a traditional IRA. This could result in a sizable income tax
bill due at death, taxed at a potential 35%. By rolling into a
traditional IRA, the heirs are unable to utilize the benefits of
long-term capital gains treatment when they decide to sell the
stock and may lose a tax saving opportunity.
There are many technical requirements that must be met in order
for this type of distribution to qualify as what's known as a
lump sum distribution. Of course, diversification considerations
and other investment fundamentals may show that rolling over
stock to a traditional IRA may be the most prudent choice in
many cases. Therefore, it is highly recommended that retirees
considering such a maneuver obtain professional advice. Be sure
to check with your financial planner or financial advisor
whether you can reap the full benefits of holding on to your
employer stock.
About the author:
Fearing the American worker is being left in the dark, Mr.
Morris, a fee based Investment Advisor Representative with
Raymond James Financial Services, Inc., helps
401k participants get the
most out of their retirement plan.
