NEW YORK (CNN/Money) - My husband's company puts all its 401(k) matching contributions into company stock, and it now represents 50 percent of his plan. The rest is in a Standard & Poor's 500 index fund (which, by the way, includes his company). My 401(k) is in other asset classes to balance out his account. Should we plan selling my husband's company stock when we retire so we can diversity more? The stock is doing okay now, but it's scary to have so much in one basket.
-- Ann, San Francisco, Calif.
 |
|||||
|
|
||||
|
|||||
The question is, what do you do? Well, I've got a few suggestions.
First, have your husband find out what restrictions, if any, he faces. Typically, companies that give stock as a matching contribution place limits on your ability to sell. Some companies may not let you sell for several years, for example, while others may require that you hold the stock to a certain age -- 40, 45 even 55 -- at which point they allow you to gradually begin selling.
If your husband is allowed to sell, I suggest he consider doing so, even before retirement. Generally speaking, it's not a good idea to have more than 10 to 20 percent of your 401(k) assets invested in your company's stock. If something happens to the company, not only could you be out of a job, but your 401(k) could be decimated.
That 10 to 20 percent figure isn't carved in stone, however. There may be instances in which even less than 10 percent is appropriate -- maybe because you've also got lots of employee stock options. And there may be times when more than 20 percent could make sense -- if a well-informed investor with plenty of other diversified holdings outside his or her 401(k) believes the prospects for the company are so bright that it's worth accepting the higher risk in return for the possibility of higher rewards.
Still, diversity is a virtue, and you can achieve it in several ways. One is simply to tweak your other holdings so that you have investments that aren't likely to move in synch with the employer stock. If your husband works for a large tech company, for example, you might want to lighten up your holdings of large-cap growth stocks and add more small-cap value shares to the portfolio. Or you could take a larger position in bonds than you normally would. (For a list of solid mutual funds to choose from, see the Money 100.)
If you want to be sure you're diversifying, you can use sector funds or exchange-traded funds (ETFs) that are available for a wide spectrum of industries. (See "Diamonds and Spiders and iShares, oh my!") Of course, building a diversified portfolio around a very large holding in one particular stock can get pretty complicated, so you might want to consult a financial planner about this.
Also, assuming you hold the stock until retirement (either by choice or because you're forced to), be aware that there are some tax advantages. In retirement, if you take the company shares as a distribution, you pay ordinary income tax on the value of the shares at which they entered the portfolio. So if years ago your company contributed 100 shares of the stock at $10 ($1,000), and it's $100 when you take the distribution, you pay tax only on the $1,000.
When you ultimately sell, you have to pay capital-gains taxes on the whole gain (in the above example, anything above $10). But the long-term capital gains tax rate, at 20 percent, is much lower than the ordinary income tax rate. If you own company shares whose price has soared over the years, this can be a considerable tax break.
Something else to keep in mind: There are some bills floating around Congress to address the issue of company stock in 401(k)s and other employee-directed retirement savings plans. One, sponsored by Senators Barbara Boxer and Jon Corzine would allow 401(k) participants to hold no more than 20 percent of their 401(k) assets in company stock. Another, sponsored by Reps. Peter Deutsch and Gene Green, would limit company stock to 10 percent of assets. (See "The battle cry for reform" for more details.)
I don't doubt that these provisions are well meaning, but I think this is the wrong approach since no one -- not even the almighty U.S. Congress -- can know what percentage of company stock is appropriate for everyone. It's a decision that must be made in light of your overall financial picture.
These bills each have another provision, however, that would limit employers' right to prevent workers from selling company stock. The Deutsch-Green bill would allow employees to sell company stock after three years, while the Boxer-Corzine bill would give 401(k) participants the right to sell those shares after 90 days, provided the employee is fully vested (which could take as long as six years).
This approach also has its drawbacks -- companies may simply decide not to match contributions if they feel employees will quickly sell the stock -- but at least it's giving us more flexibility to deal with our portfolios rather than less.
