401(k) quiz answer

PENSION/401(K) FINANCIAL PLANNER QUIZ ANSWER

An employee has stock in a plan that was valued at $5.00. When he retired, the stock was worth $30.00. If he rolled the stock to an IRA at $30.00 per share to continue the tax deferral and the stock was worth $50.00 when he died, what do his beneficiaries get?

They get the $50.00 per share value with no step up in basis. I have identified this under my tax section repeatedly. You must understand basis for all areas of planning.

So what else might the employee do?

Take the STOCK CERTIFICATES out upon retirement. The employee pays tax on the value of the shares when the stock went into the plan. So he/she pays ordinary income on the $5.00 of value. The $25.00 of unrealized appreciation receives special treatment because it will be taxed as long term capital gains. The other $20.00 of appreciation after the stock is pulled out is also taxed at long term capital gains rates.

But if the shares go to beneficiaries, they do NOT get a step up in basis on the NUA- the net unrealized appreciation of $25.00 that occurred while in the employees plan. They would get a basis of $5.00 plus the $20.00 of appreciation AFTER the stock was taken out. The $25.00 of appreciation that occurred while in the employer's plan is retained as long term capital gains. It is the only long term capital gain item that I am aware of that does not get a step up in basis at the date of death.

The key for most employees that have had stock appreciate greatly while in their plan is the probable decision to be taxed upon the initial value of the stock upon retirement primarily because a roll to an IRA permanently converts the ENTIRE AMOUNT to ordinary income.

ANY EMPLOYEE OF A 401(K) PLAN WITH EMPLOYER STOCK MUST HAVE THIS COMPLETELY ACKNOWLEDGED IN EMPLOYEE EDUCATION.

ANY EMPLOYER MUST COMMUNICATE THIS INFORMATION TO THE EMPLOYEE IN INVESTMENT EDUCATION UNDER THE GUIDELINES OF 404(C).

ANY FINANCIAL PLANNER DEALING WITH RETIREMENT AND ESTATE MUST BE ABLE TO RESEARCH THIS ISSUE AND PROPERLY USE IT IN PLANNING SCENARIOS.

IT IS NOT DEFINED IN ANY SOFTWARE I HAVE SEEN NOR KNOWN BY ALMOST ALL PLANNERS I HAVE QUESTIONED.

This key element of financial planning must be known by all parties for financial, retirement and estate planning. If it is not, you are potentially using an incompetent planner, investment instructor or personnel department.