Secret Tax Saving Trick with Retirement Account - By Kelly J. Bullis, CPA
Updated: Feb 13
How many of you love it when some smart person figures out a way to stick it to the IRS and win?
Well here’s one. If you own your company and it has a 401k plan that allows you leeway on how to invest your contribution to the plan, this great idea could potentially reduce your total tax by over 40%!
Instead of other investments in your 401k, buy your company’s stock as an investment. Your 401k holds the stock and doesn’t sell it.
When you are ready to take a lump-sum full distribution out of your 401k at retirement, you take the same corporate stock shares back. At that point, you would basically only have to pay tax on the original amount that you contributed. There is no immediate tax on the appreciation of value.
In other words, you are putting the cash of your 401k back into your company’s working capital during your working years, AND getting to reduce your personal taxable income until a later date. Later, when you’re ready to retire, you take your company stock back and pay tax on the same amount that was originally paid for the stock. In essence, you borrowed the IRS’s money (personal tax savings) for all those years, INTEREST FREE and your company had the use of the money you put into your 401k over the same period of time, INTEREST FREE!
But wait, it gets better. Under this corporate stock scenario, remember that you do NOT initially pay tax on 100% of your account, only the original contribution amount, the rest is considered “Net Unrealized Appreciation” or NUA for short. That NUA is not taxed until you actually sell that corporate stock, and that is taxed at Capital Gains rates (much lower than regular tax rates).
In summary: If you contributed $250,000 to your 401k over your working years and your company stock is now worth $1,000,000: Take a cash lump-sum distribution and you pay total tax of about $396,000. (Boom! You’re done!) Or, you take back your company stock instead of cash and pay maybe $66,000 in tax at the time of the lump-sum distribution and an additional maximum tax of $150,000 (or less if you fall into a lower Capital Gains rate) on the NUA at some later date when you sell that stock. Total tax savings could be $180,000 ($396,000-$66,000-$150,000) or more.
Did you hear in Proverbs 20:5 “A plan in the heart of a man is like deep water, but a man of understanding draws it out.”
Kelly Bullis is a Certified Public Accountant in Carson City. Contact him at 882-4459. On the web at BullisAndCo.com Also on Facebook.