Life and Death Planning for Retirement Benefits

Chapter 2: Income Tax Issues

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Different plans may use different methods of determining the plan’s basis. For example, one plan might use, as its basis for stock allocated to “Joe’s” account, the value of the stock at the time it was placed in Joe’s particular account; another plan might use the historical value of the stock at the time it was originally acquired by the plan, even if it was not allocated to any employee’s account until a much later time. Joe does not have to file any special tax form to report his receipt of NUA stock. He does not have to file Form 4972, which is used only by those claiming the special tax treatments for those born before 1936 ( ¶ 2.4.06 ). He simply reports the “Gross distribution” amount (from Box 1 of Form 1099-R) on line 16a of his Form 1040 (“Pensions and Annuities”), and the “Taxable amount” (from Box 2a of Form 1099-R) on line 16b. The favorable tax treatment of NUA also applies when employer stock is distributed to the employee’s beneficiary, provided the beneficiary takes an LSD of the employee’s balance. If the beneficiary takes distribution of the benefits in some form other than an LSD, then the beneficiary can exclude only the NUA attributable to stock purchased with the employee’s contributions. ¶ 2.5.01 . The IRS has ruled that the NUA, like other post-death retirement plan distributions, constitutes “income in respect of a decedent” (IRD; see ¶ 4.6 ) under § 691 . Rev. Rul. 69-297, 1969-1 CB 131. Accordingly, when the participant’s beneficiaries sell the employer stock that is distributed to them from the plan in a qualifying distribution, the NUA portion of the sale proceeds is long-term capital gain. They will get a § 691(c) deduction ( ¶ 4.6.04 ) for the estate taxes paid on the NUA if any. When the employee receives a distribution of employer stock and the NUA is excluded from his income, his basis in the stock going forward is the value that was taxed upon distribution, i.e., the plan’s original cost basis in the stock. If the employee still holds the stock at death, the IRS has ruled that such stock does not receive a stepped-up basis (citing § 1014(c) ) to the extent the employee benefitted from exclusion of NUA. According to the IRS, the NUA retains its character as NUA even after the employee’s death, and will constitute IRD to the employee’s heirs when they eventually sell the stock. Only to the extent, if any, that the stock appreciated in value after it was distributed to the employee by the plan does it receive a stepped-up basis. Rev. Rul. 75-125, 1975-1 CB 254. Though Rev. Rul. 75-125 has not been revoked, the IRS may have changed its mind on this issue. One indication of this is that the IRS has allowed NUA-stock recipients to assign their stock and its NUA to charitable remainder trusts (CRTs; ¶ 7.7.04 ); see PLRs 1999-19039, 2000- 38050, and 2002-15032. If the NUA represented unrealized income, an assignment of it should trigger income tax, but the IRS in those PLRs did not rule that assignment of NUA stock to a CRT caused realization of the underlying income by the employee-assignor. Also, in PLR 2000-38050 (eighth ruling), the IRS ruled that NUA stock contributed by the employee to a charitable remainder trust would get a stepped-up basis to the extent the CRT was included in the employee’s estate; this directly contradicts Rev. Rul. 75-125. Distributions after the employee’s death Basis of stock distributed in life, held until death

Election to include NUA in income