NUA cost basis: the number that decides everything

What “cost basis” means inside a 401(k)

The cost basis is what the plan paid for your employer shares over the years they were purchased — through payroll contributions, matches, and dividend reinvestment. The NUA is the difference: market value minus that basis, the growth that happened while the shares sat inside the plan.

In a qualifying lump-sum distribution with an NUA election, those two pieces are taxed on different tracks. The basis is taxed as ordinary income in the year of distribution (and can also face the 10% early-distribution tax if you are under 59½ and no exception — such as separating from service in or after the year you turn 55 — applies). The NUA is not taxed at distribution at all; under IRC 402(e)(4) it stays untaxed until you sell the shares, and when you sell, the NUA portion is long-term capital gain regardless of how long you held the shares after distribution (IRS Publication 575). Growth after the distribution is on its own clock — long- or short-term depending on how long you hold after the shares leave the plan.

Why the basis-to-value ratio decides the math

Think of the ratio as the price of admission. A $200,000 stock position with a $30,000 basis (15%) means paying ordinary tax on $30,000 now to move $170,000 of growth from the ordinary-income track to the capital-gains track. The same position with a $120,000 basis (60%) means paying ordinary tax on $120,000 now — most of the position — to convert only $80,000. Same stock, same value, completely different deal.

That is why practitioners talk about the ratio before anything else: a low ratio makes the election worth analyzing seriously, and a high ratio usually means the deferral of a rollover has the upper hand. But the ratio alone is not a decision — brackets, sale horizon, penalties, and state tax all move the answer, which is what the free analyzer models. And because plans often bought your shares in many lots at many prices, the average ratio can hide low-basis lots worth asking your CPA about separately — a partial, lowest-lots-only election is a real strategy in some plans.

Get the figure in writing before you move a dollar

The only authoritative source for your cost basis is the plan administrator or recordkeeper. Not your brokerage statement, not an estimate from the share count and your memory of old stock prices — the plan's own records. Three practical rules:

• Ask BEFORE initiating anything. Once a distribution starts processing, your leverage to clarify, correct, or restructure drops to near zero — and the election itself is irreversible once shares land in the wrong account.
• Get it in writing. A verbal number from the service line is not something your CPA can plan around or an auditor will accept. Request a letter or statement that states the cost basis of the employer stock.
• Ask for the lot-level breakdown. If the plan can report basis per purchase lot, that document is what makes a partial NUA election possible to evaluate — and it becomes the audit record for the eventual sale.

What to expect on the 1099-R

The following January, the plan reports the distribution on Form 1099-R, and the boxes are your verification that the NUA was processed as an NUA. Per the IRS instructions for Form 1099-R, the payer reports the net unrealized appreciation in Box 6 and includes it in Box 1 (gross distribution) but not in Box 2a (taxable amount). So for the stock portion of a properly executed lump-sum distribution, Box 2a should line up with the written basis figure you collected, and Box 6 should show the appreciation.

Check those boxes against your written basis letter the day the form arrives. A blank Box 6, or a Box 2a equal to the full market value, means the payer reported the distribution as fully taxable — a problem to fix with the administrator via a corrected 1099-R, with your CPA in the loop, before the return is filed. Keep the basis letter, the distribution confirmations, and the 1099-R together permanently: that file is the audit record for the capital-gains treatment when you eventually sell.

Common questions