You can save a lot of money in retirement by ignoring one piece of conventional wisdom

Workers should pay close attention to their company stock options, especially when they're planning their retirements.

Most workers ignore one retirement-account perk that can save them thousands of dollars in federal taxes.

The provision is called net unrealized appreciation, and it's been in the tax code since 1954. Most people who qualify for it have never heard the term, but it is a powerful tool for those with company stock sitting in their 401(k) plans.

Take, for example, two people retiring from the same employer on the same day. They have the same job, the same salary and the same amount of company stock in their 401(k) plans. Let's say it is $400,000 of company stock that was bought over the years for $60,000.

One of those workers will pay roughly $96,000 in federal tax on that stock. The other, with some planning, can pay about $2,450 and never owe another dollar on it.

The secret? One of them signed a form regarding net unrealized appreciation on their way out the door.

Here's what it is, how it works and the one situation where using it is the wrong call.

What the rule says

If your 401(k) holds stock in the company you work for, you have to know two numbers: what it cost when it went into your account, called the cost basis, and what it's worth now.

The difference between them is the net unrealized appreciation. It's the growth that happened while the shares sat inside the plan.

Ordinarily, everything that comes out of a 401(k) is taxed as ordinary income, at the same rate as your salary. That's true whether the money grew in a bond fund or in company stock that went up tenfold.

Under Internal Revenue Code Section 402(e)(4), employer stock gets different treatment if you take the shares out correctly. You pay ordinary income tax on the cost basis - that is, the amount you paid when you first purchased the stock - in the year you take the distribution. The appreciation is taxed at long-term capital-gains rates instead, and only when you actually sell the shares.

Long-term capital-gains rates are 0%, 15% or 20%. Ordinary income rates go up to 37%. Knowing that gap and how to use it to your advantage can result in big savings.

The appreciation is automatically treated as long-term, no matter how long you held the shares. You could take the distribution and sell the next morning and the in-plan gain still gets capital-gains treatment.

The math on our two retirees

In the earlier example, both retirees had $400,000 of stock with a $60,000 cost basis, which means $340,000 of appreciation.

The first person rolls everything into an individual retirement account, or IRA. That's what most people do, and what most people are told to do. Every dollar of that $400,000 is now ordinary income whenever it comes out. In a 24% bracket, it could generate roughly $96,000 of federal tax.

The second person takes the shares out in kind and elects net unrealized appreciation treatment. "In kind" is jargon for moving the actual shares into a taxable brokerage account rather than selling them inside the plan and transferring out the cash.

She pays ordinary income tax on the $60,000 cost basis. For her and her spouse, the standard deduction is $35,500 (the $32,200 base for a married couple, plus $1,650 for each spouse over 65, or $3,300 between them). That leaves $24,500 of taxable income, all of it taxed at the 10% rate. Federal tax liability: $2,450.

The $340,000 of appreciation isn't taxed at all yet. It waits until she sells. And that's where the second half of the strategy lives.

The next power move

The second person in this example doesn't sell everything at once. She sells about a third of the position each year for three years, which is also the amount she and her husband are living on.

Here's why that costs nothing. The 0% long-term capital gains rate applies as long as taxable income stays at or below $98,900 for a married couple in 2026. With their $35,500 standard deduction, they can realize roughly $134,400 of gross income a year and still land inside the bracket.

Selling a third of the shares brings in about $133,000 of income, and most of that is the appreciation. After the standard deduction, their taxable income lands under the threshold. The capital-gains rate on it is 0%.

They do that for three years, and the entire $340,000 of appreciation comes out at no federal tax. Total federal tax on a $400,000 position: $2,450, all of it paid in the first year on the cost basis.

Now compare that to the $96,000 the first person had to pay because she signed the rollover form.

There are three conditions that made the second person's strategy a smart move: She and her spouse delayed claiming Social Security, which is often the right move anyway for those who can afford to do so; they have no pension or other large income source filling up those brackets; and they're willing to sell the stock rather than hold it.

Changing those factors can make the number go up. A couple with a pension might land at 15% on part of the gain instead of 0%. That's still far better than the ordinary income-tax rate, and it's why the comparison has to be run based on your own situation rather than assumed.

The years that matter are the ones after you stop working and before Social Security and required distributions increase your income. For many retirees, that's a stretch of five to 10 years when taxable income is the lowest it will ever be again.

That's also why the decision can't wait. That window opens the day you stop working. And that's when you have to fill out the form.

A few more things to know

The rules of this strategy are unforgiving, and failing to follow the proper procedure could result in an ordinary taxable distribution.

-- The shares have to be distributed in kind, meaning the actual stock moves directly into a taxable brokerage account. If the plan sells the shares first and distributes the proceeds as cash, you lose the election.

-- You need a triggering event. There are four: separating from service, reaching age 591/2, disability or death. Someone retiring at 62 satisfies two of them, which is the cleanest possible setup.

-- It has to be a lump-sum distribution. Your entire balance across all plans of that type with that employer has to leave in a single calendar year.

-- There can be no prior partial distribution in the same year. An in-service withdrawal, a hardship distribution or a loan offset taken earlier can taint the lump sum.

That third rule deserves emphasis because of how ordinary the mistake looks. People roll a portion of their balance to an IRA to "get started," fully intending to deal with the stock later. There is no later. The election is already gone.

If you're under 591/2 years old, the 10% early withdrawal penalty applies to the cost basis you're recognizing, though not to the appreciation. If you separated from service in or after the year you turned 55, the Rule of 55 may excuse that penalty entirely.

Keep in mind that you don't have to elect net unrealized appreciation on all of your shares. Under Treasury Regulation 1.402(a)-1(b)(2)(ii)(A), if your plan tracks cost basis at the individual lot level, you can pick which shares get the treatment and roll the rest into an IRA. The lump-sum requirement still applies, meaning everything still has to leave the plan in one year. But you choose where each piece lands.

This matters because your shares don't all have the same basis. Stock your employer put in 25 years ago may have cost pennies against today's price. Stock from three years ago may have cost nearly what it's worth now.

The low-basis shares are where this strategy shines. The high-basis shares, on the other hand, should have their own plan.

When this is the wrong move

Net unrealized appreciation is not automatically the answer, and treating it that way costs people money too.

High basis kills it. Generally speaking, high-basis shares are better off rolling to an IRA, where they keep growing tax-deferred. If your shares cost most of what they're worth today, you're paying ordinary income tax now on nearly the whole position in exchange for a small capital-gains break later. A straight rollover wins.

One planner's rule of thumb is to skip net unrealized appreciation on any shares with a basis above 20 cents on the dollar. If the stock trades at $80, that means electing it only on lots with a basis of $16 or less.

Also, know your state's rules. Many states tax the appreciation as ordinary income regardless of the federal treatment. Check before you count the savings.

What to do right now

If you have company stock in a 401(k) and you're within a few years of leaving your job, do three things before you fill out any distribution paperwork.

Ask your plan administrator for the cost basis of your employer stock, broken out by tax lot. Ask whether the plan can distribute shares in kind. And find out whether you have a balance in any other plan with that employer, because it has to come out in the same year.

Then run the numbers with someone who has done this before, because the decision is not reversible and the comparison depends on your basis, your bracket, your state and how long you'd otherwise wait. Consider working with a trustworthy certified public accountant or a reputable financial planner.

Most people never get that far. They retire, they're handed a stack of forms, and the rollover box is the obvious one to check. It's the responsible-looking choice, it takes 30 minutes, and it's the only decision in this entire article that can't be undone.

MW Here's how to avoid a six-figure error that many retirees make with their company stock

By Kurt Supe

You can save a lot of money in retirement by ignoring one piece of conventional wisdom

Workers should pay close attention to their company stock options, especially when they're planning their retirements.

Most workers ignore one retirement-account perk that can save them thousands of dollars in federal taxes.

The provision is called net unrealized appreciation, and it's been in the tax code since 1954. Most people who qualify for it have never heard the term, but it is a powerful tool for those with company stock sitting in their 401(k) plans.

Take, for example, two people retiring from the same employer on the same day. They have the same job, the same salary and the same amount of company stock in their 401(k) plans. Let's say it is $400,000 of company stock that was bought over the years for $60,000.

One of those workers will pay roughly $96,000 in federal tax on that stock. The other, with some planning, can pay about $2,450 and never owe another dollar on it.

The secret? One of them signed a form regarding net unrealized appreciation on their way out the door.

Here's what it is, how it works and the one situation where using it is the wrong call.

What the rule says

If your 401(k) holds stock in the company you work for, you have to know two numbers: what it cost when it went into your account, called the cost basis, and what it's worth now.

The difference between them is the net unrealized appreciation. It's the growth that happened while the shares sat inside the plan.

Ordinarily, everything that comes out of a 401(k) is taxed as ordinary income, at the same rate as your salary. That's true whether the money grew in a bond fund or in company stock that went up tenfold.

Under Internal Revenue Code Section 402(e)(4), employer stock gets different treatment if you take the shares out correctly. You pay ordinary income tax on the cost basis - that is, the amount you paid when you first purchased the stock - in the year you take the distribution. The appreciation is taxed at long-term capital-gains rates instead, and only when you actually sell the shares.

Long-term capital-gains rates are 0%, 15% or 20%. Ordinary income rates go up to 37%. Knowing that gap and how to use it to your advantage can result in big savings.

The appreciation is automatically treated as long-term, no matter how long you held the shares. You could take the distribution and sell the next morning and the in-plan gain still gets capital-gains treatment.

The math on our two retirees

In the earlier example, both retirees had $400,000 of stock with a $60,000 cost basis, which means $340,000 of appreciation.

The first person rolls everything into an individual retirement account, or IRA. That's what most people do, and what most people are told to do. Every dollar of that $400,000 is now ordinary income whenever it comes out. In a 24% bracket, it could generate roughly $96,000 of federal tax.

The second person takes the shares out in kind and elects net unrealized appreciation treatment. "In kind" is jargon for moving the actual shares into a taxable brokerage account rather than selling them inside the plan and transferring out the cash.

She pays ordinary income tax on the $60,000 cost basis. For her and her spouse, the standard deduction is $35,500 (the $32,200 base for a married couple, plus $1,650 for each spouse over 65, or $3,300 between them). That leaves $24,500 of taxable income, all of it taxed at the 10% rate. Federal tax liability: $2,450.

The $340,000 of appreciation isn't taxed at all yet. It waits until she sells. And that's where the second half of the strategy lives.

The next power move

The second person in this example doesn't sell everything at once. She sells about a third of the position each year for three years, which is also the amount she and her husband are living on.

Here's why that costs nothing. The 0% long-term capital gains rate applies as long as taxable income stays at or below $98,900 for a married couple in 2026. With their $35,500 standard deduction, they can realize roughly $134,400 of gross income a year and still land inside the bracket.

Selling a third of the shares brings in about $133,000 of income, and most of that is the appreciation. After the standard deduction, their taxable income lands under the threshold. The capital-gains rate on it is 0%.

They do that for three years, and the entire $340,000 of appreciation comes out at no federal tax. Total federal tax on a $400,000 position: $2,450, all of it paid in the first year on the cost basis.

Now compare that to the $96,000 the first person had to pay because she signed the rollover form.

There are three conditions that made the second person's strategy a smart move: She and her spouse delayed claiming Social Security, which is often the right move anyway for those who can afford to do so; they have no pension or other large income source filling up those brackets; and they're willing to sell the stock rather than hold it.

Changing those factors can make the number go up. A couple with a pension might land at 15% on part of the gain instead of 0%. That's still far better than the ordinary income-tax rate, and it's why the comparison has to be run based on your own situation rather than assumed.

The years that matter are the ones after you stop working and before Social Security and required distributions increase your income. For many retirees, that's a stretch of five to 10 years when taxable income is the lowest it will ever be again.

That's also why the decision can't wait. That window opens the day you stop working. And that's when you have to fill out the form.

A few more things to know

The rules of this strategy are unforgiving, and failing to follow the proper procedure could result in an ordinary taxable distribution.

-- The shares have to be distributed in kind, meaning the actual stock moves directly into a taxable brokerage account. If the plan sells the shares first and distributes the proceeds as cash, you lose the election.

-- You need a triggering event. There are four: separating from service, reaching age 591/2, disability or death. Someone retiring at 62 satisfies two of them, which is the cleanest possible setup.

-- It has to be a lump-sum distribution. Your entire balance across all plans of that type with that employer has to leave in a single calendar year.

-- There can be no prior partial distribution in the same year. An in-service withdrawal, a hardship distribution or a loan offset taken earlier can taint the lump sum.

That third rule deserves emphasis because of how ordinary the mistake looks. People roll a portion of their balance to an IRA to "get started," fully intending to deal with the stock later. There is no later. The election is already gone.

If you're under 591/2 years old, the 10% early withdrawal penalty applies to the cost basis you're recognizing, though not to the appreciation. If you separated from service in or after the year you turned 55, the Rule of 55 may excuse that penalty entirely.

Keep in mind that you don't have to elect net unrealized appreciation on all of your shares. Under Treasury Regulation 1.402(a)-1(b)(2)(ii)(A), if your plan tracks cost basis at the individual lot level, you can pick which shares get the treatment and roll the rest into an IRA. The lump-sum requirement still applies, meaning everything still has to leave the plan in one year. But you choose where each piece lands.

This matters because your shares don't all have the same basis. Stock your employer put in 25 years ago may have cost pennies against today's price. Stock from three years ago may have cost nearly what it's worth now.

The low-basis shares are where this strategy shines. The high-basis shares, on the other hand, should have their own plan.

When this is the wrong move

Net unrealized appreciation is not automatically the answer, and treating it that way costs people money too.

High basis kills it. Generally speaking, high-basis shares are better off rolling to an IRA, where they keep growing tax-deferred. If your shares cost most of what they're worth today, you're paying ordinary income tax now on nearly the whole position in exchange for a small capital-gains break later. A straight rollover wins.

One planner's rule of thumb is to skip net unrealized appreciation on any shares with a basis above 20 cents on the dollar. If the stock trades at $80, that means electing it only on lots with a basis of $16 or less.

Also, know your state's rules. Many states tax the appreciation as ordinary income regardless of the federal treatment. Check before you count the savings.

What to do right now

If you have company stock in a 401(k) and you're within a few years of leaving your job, do three things before you fill out any distribution paperwork.

Ask your plan administrator for the cost basis of your employer stock, broken out by tax lot. Ask whether the plan can distribute shares in kind. And find out whether you have a balance in any other plan with that employer, because it has to come out in the same year.

Then run the numbers with someone who has done this before, because the decision is not reversible and the comparison depends on your basis, your bracket, your state and how long you'd otherwise wait. Consider working with a trustworthy certified public accountant or a reputable financial planner.

Most people never get that far. They retire, they're handed a stack of forms, and the rollover box is the obvious one to check. It's the responsible-looking choice, it takes 30 minutes, and it's the only decision in this entire article that can't be undone.