Distributions of Lowe’s Stock from your 401(k) Plan Account

Distributions of Lowe¡¯s Stock from

your 401(k) Plan Account

The Impact of Net Unrealized Appreciation on your 401(k) Plan

Investments

Introduction: ¡°In Kind¡± Distributions from Your 401(k) Plan Account

The Lowe¡¯s 401(k) Plan (the ¡°Plan¡±) allows you several choices when taking a distribution of

your Plan account at retirement or separation from service. You can, for instance, take a

lump-sum cash distribution of all or part of your account balance (subject to taxes and

withholding requirements), or you can roll all or part of the balance of your account over into

an individual retirement account maintained by a financial institution or to another

company¡¯s qualified retirement plan.

Because the Plan also allows you to invest in Lowe¡¯s stock, you can choose to take an ¡°in

kind¡± distribution of the portion of your account invested in Lowe¡¯s stock. When you

choose an in kind distribution, you receive Lowe¡¯s stock instead of the cash proceeds from

the sale of that stock.

Special tax rules apply to in kind distributions of company stock from 401(k) plans. These

special rules may allow you to save on the taxes assessed when you take a distribution from

your Plan account. You may also wish to consider these rules as you make investment

decisions during your time at Lowe¡¯s.

Distributions and Taxes

When you take a distribution from a 401(k) plan account or traditional (non Roth) IRA, you

must pay ordinary income taxes on the amount of your withdrawal.

Remember, 401(k) plans do not allow you to avoid paying income taxes, but rather defer or

delay the taxes on your contributions and earnings until you take them out of the plan.

Generally, the longer you can defer paying taxes on your investments, the better, as this

allows your money to grow and compound longer. Additionally, if you wait until after

retirement to take a distribution, you may find yourself in a lower tax bracket, and thus your

taxes on the investments may be lower. For these reasons, many people decide to roll their

401(k) account balances into an IRA upon retirement or separation from service, allowing

them to continue to defer the taxes on their Plan contributions and earnings.

Plan investments in Lowe¡¯s stock however, may require some additional planning and

decision making which we will discuss herein. You may wish to consult a tax advisor before

making your distribution and rollover decisions.

Net Unrealized Appreciation

Instead of being subject to ordinary income taxes on the full value of the distribution, in kind

distributions of Lowe¡¯s stock which are distributed in connection with a lump sum

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distribution of your entire Plan balance are subject to ordinary income tax on the lower of

the cost value or market value of that stock. This only applies to distributions from a

qualified employer plan like Lowe¡¯s 401(k) Plan. Distributions from a traditional IRA are

always subject to ordinary income taxes on the full value of the distribution.

If you or the Plan paid less for the Lowe¡¯s stock in your Plan account than the stock is worth

at distribution, the difference between the lower cost of the stock and the market value is

called Net Unrealized Appreciation. When you later sell the stock, you would owe taxes on

the difference between the cost and market value at capital gains tax rates, which are

typically lower than ordinary income tax rates. Consider the following example:

The Plan¡¯s recordkeeper tracks balances of Lowe¡¯s stock balances separately by each type of

contribution used to buy the stock, and distributions can be taken in kind by type. Mary

Smith retires at age 65 with the following balances in Lowe¡¯s stock in her Plan account:

Source

Cost

Market Value

Employee Deferral

ESOP?

Performance Match?

$ 41,000

$ 38,000

$ 39,000

$ 59,000

$ 132,000

$ 24,000

Net Unrealized

Appreciation

$18,000

$94,000

($15,000)

1

ESOP balances refer to a Plan participant¡¯s assets, if any, from the Lowe¡¯s Employee Stock Ownership Plan (ESOP),

transferred to the 401(k) Plan when the ESOP and 401(k) Plan merged, effective September 13, 2002.

?Performance Match balances refer to Lowe¡¯s annual discretionary matching contributions based on Lowe¡¯s financial

performance; these contributions were discontinued after 2005.

In this instance, because the cost of the Lowe¡¯s stock in Mary¡¯s Performance Match balance

exceeds the market value, there is no tax benefit to Mary in taking an in kind distribution of

the Lowe¡¯s stock in her Performance Match balance. Mary does, however, have Net

Unrealized Appreciation in the Lowe¡¯s stock in her Employee Deferral and ESOP balances.

One option for Mary would be to take an in kind distribution of her Employee Deferral and

ESOP balances, and then sell the Lowe¡¯s stock the very next day. Assuming she is subject to

tax on each additional dollar of income at a 28% federal tax rate, her potential tax savings

would look like this:

Value Taxed

Ordinary income tax on

normal cash distribution

Ordinary income tax on

in kind distribution

Capital gains tax on Net

Unrealized Appreciation

$191,000

Marginal

Tax Rate

28%

Federal Tax

Due

$ 53,480

($132,000+$59,000)

$79,000

28%

$ 22,120

($41,000+$38,000)

$112,000

15%

$16,800

Savings

($191,000-$79,000)

Total tax on in-kind

distribution

$ 38,920

$ 14,560

Therefore, before taking a distribution, Mary will need to decide if her tax savings ($14,560)

today with an in kind distribution would be better for her personal situation than rolling her

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money into an IRA and continuing to defer the taxes but potentially paying a higher tax rate

later. Of course, Mary¡¯s tax rates may change over time as the laws change and her income

changes, so this is not an easy or clear cut decision. She may also choose to hold her stock

after distribution and further defer the capital gains portion of her tax liability. These are

considerations Mary should discuss and evaluate with a tax or investment adviser.

Your own situation will depend upon similar factors: your marginal tax rate (the tax rate you

pay on the next dollar of your earnings) at the time you are considering a distribution,

potential future income levels, tax rate changes, the applicability of the 10% additional tax on

early withdrawals, and other considerations. In the case discussed above Mary was not

subject to the 10% additional tax on early withdrawals since she was age 65, however if you

are less than age 591/2 in the year in which you receive your distribution, you may be subject

to the additional tax . You should consider the applicability of the 10% additional tax in

deciding whether to take the in-kind distribution vs. rolling into an IRA. Discussing and

evaluating these factors with a tax or investment adviser can help you decide when and how

to take a distribution from your Plan account.

It is important to remember, however, that once you deposit your funds, including Lowe¡¯s

stock, in an IRA account you lose the ability to apply the special tax treatment for in

kind distributions, because all distributions (including distributions in stock) from a regular

IRA account are subject to ordinary income tax. Also bear in mind that some financial

institutions will not accept deposits of Lowe¡¯s stock into an IRA, so if you wish to deposit

Lowe¡¯s stock into an IRA, make sure the financial institution will accept the deposit.

Investment Planning Considerations

As you review your 401(k) Plan investments in Lowe¡¯s stock, note that Plan¡¯s recordkeeper

tracks the cost of your Lowe¡¯s stock investments using a method called average cost. This

tracking method simply means that for each source (Employee Deferral, ESOP and

Performance Match), one cost figure is tracked, representing the average cost of all the

Lowe¡¯s stock you acquired over time. Each time you acquire or sell Lowe¡¯s stock, your

average cost for the specific source is adjusted up or down based on the amount of Lowe¡¯s

stock you bought or sold and the market price at the time of the transaction. Unlike some

brokerage accounts, there is no tracking of individual transactions as this would require

accounting for many hundreds of ¡°tax lots¡± for each participant.

As you make your investment decisions, you may wish to consider Net Unrealized

Appreciation when reallocating your investments in Lowe¡¯s stock. If, for example, you sell

all of the Lowe¡¯s stock in your Plan account, acquired over a period of years, and rebuy that

same amount of stock weeks or months later, then you will ¡°reset¡± your average cost of the

stocks and lose any potential future tax benefit on your Net Unrealized Appreciation. You

may therefore wish to discuss Net Unrealized Appreciation with a tax or investment adviser

before reallocating any large Plan account balances in Lowe¡¯s stock.

Estate Planning Implications

Finally, if you are expecting to pass on to beneficiaries and heirs all or a portion of your

accumulated wealth, you should weigh additional considerations when deciding between an

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in-kind distribution and an IRA rollover. If you take an in kind distribution and hold your

Lowe¡¯s stock until your death, your heirs will receive the stock at a ¡°stepped up basis.¡± A

stepped up basis means that when your heirs sell this stock, they will owe taxes on the

difference between the market value at the time of the sale and the market value at the

time of your death. Any appreciation in the value of the Lowe¡¯s stock you experienced

during your lifetime would essentially be tax-free to your heirs. Of course, estate taxes could

apply to the value of your stock, but there is the potential for considerable income tax savings

through this ¡°stepped up basis¡± should the value of your Lowe¡¯s stock continue to improve

over time.

Similar considerations exist for those individuals with charitable intentions, as the gift of

appreciated stock can also sometimes be a useful tax and estate planning tool.

Conclusion

Net Unrealized Appreciation in Lowe¡¯s stock can be an advantage to you in your investment,

tax, retirement and estate planning. Each person¡¯s situation, however, is unique, and the right

decisions will vary based upon a number of personal factors. Seeking professional tax or

investment advice may be in your best interest before making decisions such as how and

when to take a distribution from your 401(k) Plan account.

You can obtain your Net Unrealized Appreciation balances by contribution source by

contacting the Lowe¡¯s Action Line 1-877-236-5693. Plan representatives are available

Monday through Friday from 9:00 am to 5:00 pm Eastern time.

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