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For Fox employees who have experienced significant market appreciation, the thought of rebalancing their portfolio can be daunting. The large embedded capital gains in their holdings often create a powerful disincentive to sell, leading to a 'tax-locked' portfolio. While an investor may have a well-diversified portfolio on the whole, a single, highly appreciated stock can still represent an uncomfortable level of risk. In these situations, the conventional wisdom of simply selling the position is often prohibitively expensive from a tax perspective. However, a little-known but powerful tool—the Section 351 exchange—may offer a strategic and tax-efficient solution.
Consider Michael, a successful professional with a total investment portfolio of $5 million. The majority of his assets are in a broadly diversified mix of mutual funds and exchange traded funds (ETFs). However, his portfolio also includes a single stock position valued at $500,000, which he acquired years ago for $100,000. While this single stock represents only 10% of his total portfolio, its low cost basis and unrealized gain of $400,000 make him hesitant to sell. A sale would trigger a tax bill of roughly $95,200, reducing the capital available for reinvestment and diversification. Michael's situation is common; he understands the importance of diversification, but the tax cost of achieving it feels punitive.
This is precisely the kind of scenario where a Section 351 exchange can provide a strategic advantage. This tax provision, as outlined in the Internal Revenue Code, allows for a tax-deferred transfer of property to a corporation in exchange for its stock, provided certain conditions are met. As Kevin Landis, a finanial advisor with Wealth Enhancement notes, 'A Section 351 exchange could help investors with appreciated assets achieve tax-efficient diversification.'
The core of the strategy is rooted in the tax code itself. IRC Section 351(a) states: “No gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock in such corporation and immediately after the exchange such person or persons are in control (as defined in section 368(c)) of the corporation.” The gain is not eliminated, but deferred, as the investor's original cost basis carries over to the new corporate shares. This is a critical distinction from a traditional sale.
For the exchange to be valid, two main requirements must be satisfied:
Diversification: The portfolio being transferred must be diversified according to the IRS's 25/50 test. This means no single holding can represent more than 25% of the total value, and the top five holdings cannot exceed 50%. Since Michael's $500,000 single stock position is only 10% of his total $5 million portfolio, his entire portfolio passes this test.
Control: The investor must have at least 80% control of the newly formed corporation immediately following the exchange. In practice, this is often achieved by multiple 'seeding' investors transferring assets at the same time to establish an ETF, or by an investor with a significant enough portfolio acting as the primary seeder of a new fund.
By working with an ETF sponsor that facilitates these exchanges, Michael can transfer his entire $5 million portfolio into a newly formed ETF. He would receive ETF shares in return, and his $400,000 unrealized gain would not be taxed. Within the ETF wrapper, the fund manager could then sell Michael's single stock and reinvest the proceeds into other securities to align with the fund's mandate. Due to the in-kind creation and redemption process of ETFs, this internal rebalancing does not trigger a taxable event for Michael. He has successfully diversified away from his single-stock risk and preserved the full $500,000 of market value.
Tyson Mavar, a Senior Vice President and Financial Advisor with Wealth Enhancement, emphasizes the importance of a holistic approach to these complex strategies. 'For clients with significant embedded gains, the goal is always to optimize after-tax returns,' Mavar says. 'A Section 351 exchange is a prime example of a strategy that, when executed correctly, can help preserve capital that may otherwise be lost to taxes, allowing it to continue working for the client over the long term.'
While the benefits are clear, it's important to acknowledge the limitations. The number of ETFs currently accepting such exchanges is limited, and these funds may have higher expense ratios than their more established counterparts. There's also the risk of an inadvertent tax treatment failure if the rules are not strictly followed. However, for an investor like Michael, the ability to defer a substantial tax bill and gain immediate diversification makes the strategy compelling. It is a powerful tool for advisors to help their clients escape the 'tax-locked' state and realign their portfolios with their long-term financial goals.
Key Resources:
IRC Section 351(a): https://www.law.cornell.edu/uscode/text/26/351
IRS Treasury Regulation 1.351-1(c)(5): This regulation details the diversification test, often referred to as the 25/50 test, which is crucial for the strategy to be valid.
Kitces.com: 'Using Section 351 Exchanges To Tax-Efficiently Reallocate Portfolios' by Ben Henry-Moreland (March 12, 2025). This article provides a comprehensive overview of the strategy's mechanics and use cases.
Cambria Tax Aware ETF (Ticker: TAX): As one of the first ETFs to publicly announce the use of Section 351 exchanges, its prospectus and fund information offer a real-world example of the strategy in practice.
Longview
Advantage ETF (Ticker: EBI): Another example of a new fund launched via Section 351, demonstrating the increasing adoption of this strategy by ETF sponsors.
Other ideas if you own a highly appreciated stock
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- Donating highly appreciated stock to a public charity.
- Contributing appreciated stock to a Donor-Advised Fund (DAF).
- Gifting highly appreciated stock to a family member in a lower tax bracket.
- Upstream gifting of appreciated stock to an older family member for a step-up in basis.
- Using tax-loss harvesting to offset capital gains.
- Entering into a variable prepaid forward contract.
- Reinvesting capital gains into a Qualified Opportunity Fund (QOF).
- Holding the stock until death to receive a step-up in basis for heirs.
How does 21st Century Fox America Inc. determine the funding status of its pension plan, and what key metrics are utilized in evaluating its financial health? Employees may want to understand the significance of the Funding Target Attainment Percentage and how it influences their retirement benefits, especially as it pertains to both the general and specific circumstances affecting funding levels.
Funding Status and Metrics: 21st Century Fox America Inc. determines the funding status of its pension plan by calculating the Funding Target Attainment Percentage (FTAP), which divides the plan’s net assets by its liabilities. For the 2022 plan year, the FTAP was 125.79%. This metric is crucial because it indicates how well the plan is funded. A high FTAP suggests that the plan is well-funded and capable of meeting its obligations, which directly influences employees' retirement security(21st Century Fox Americ…).
What considerations does 21st Century Fox America Inc. take into account when deciding the investment strategies for its pension plan? Employees should be informed about the policy guidelines that govern the allocation of the plan's assets, including which asset classes are prioritized and the expected outcomes from such investment decisions.
Investment Strategy Considerations: The company follows specific investment policies that establish guidelines for asset allocation within the pension plan. These policies ensure that assets are allocated among major categories like equities, fixed income, and cash. The fiduciaries of the plan determine the target ranges for each category, aiming for stable returns and long-term viability(21st Century Fox Americ…).
How can employees of 21st Century Fox America Inc. assess their rights and the processes involved should the pension plan terminate? This includes evaluating the stipulations provided by federal laws that dictate what happens to vested benefits upon termination and what steps participants can take to secure their entitlements.
Rights and Pension Termination: Should the pension plan terminate, federal law requires 21st Century Fox America Inc. to follow certain procedures. If fully funded, the plan would undergo a standard termination, where an insurance company provides annuities, or a lump sum may be offered. In underfunded cases, a distress termination could occur, where the Pension Benefit Guaranty Corporation (PBGC) takes over(21st Century Fox Americ…).
What are the recent changes in federal regulations influencing how pension plans, such as the one at 21st Century Fox America Inc., calculate their liabilities? Employees need to grasp the implications of these regulations on their future benefits, specifically regarding the new methodologies for determining financial sufficiency.
Impact of Federal Regulations: Recent changes in federal regulations, including the American Rescue Plan Act of 2021, adjusted the methodologies for calculating pension liabilities. Plans now incorporate a 25-year interest rate average, which typically results in higher interest rates and lower liabilities, affecting the funding status and employer contributions(21st Century Fox Americ…).
In the context of 21st Century Fox America Inc., what is the role of the Pension Benefit Guaranty Corporation (PBGC) in guaranteeing pension benefits, and what are the criteria for ensuring benefits remain secure? Understanding how the PBGC functions and its limits is critical for employees planning their retirements.
Role of PBGC: The PBGC provides a guarantee for vested pension benefits in the event of plan termination. The guarantee is subject to legal limits, which vary depending on the participant’s age and the plan’s termination date. For 2023, the maximum annual benefit for a 65-year-old retiree was $81,000(21st Century Fox Americ…).
What steps can employees take to access information related to their pension plan from 21st Century Fox America Inc., and how can they ensure they receive timely updates regarding their benefits? Details about the channels available for inquiries and the importance of keeping informed about funding levels and benefits are crucial.
Accessing Pension Information: Employees can access information about their pension plan through the Disney Benefits Center by calling (800) 354-3970. Staying informed about the plan’s funding levels and benefits is essential, and employees are encouraged to review the annual funding notice for updates(21st Century Fox Americ…).
How does 21st Century Fox America Inc. manage the risks associated with its pension investments, particularly in a volatile market climate? Employees could benefit from insights into risk management strategies and how they affect long-term pension viability.
Risk Management in Investments: To manage investment risks, 21st Century Fox America Inc. adheres to a diversified asset allocation strategy. This approach helps mitigate market volatility and ensures the long-term sustainability of pension benefits despite changing economic conditions(21st Century Fox Americ…).
In what ways can a participant's years of service and salary history with 21st Century Fox America Inc. affect their retirement benefits, and what mechanisms are in place to ensure accurate benefit calculations? Exploring the relationship between service, salary, and pension outcomes can help clarify employee expectations.
Service and Salary Impact on Benefits: The pension plan is structured to account for employees' years of service and salary history in calculating their retirement benefits. These factors directly affect the benefit amount, and the plan ensures that accurate records are maintained to reflect this information(21st Century Fox Americ…).
What unique benefits does 21st Century Fox America Inc. offer that may enhance its pension plan, and how can employees maximize their advantages while planning for retirement? Understanding available supplemental benefits can empower employees in their retirement planning journeys.
Enhancing Pension Benefits: Employees of 21st Century Fox America Inc. may benefit from supplemental retirement benefits, including early retirement options or disability benefits. Understanding and maximizing these options can significantly impact long-term retirement planning(21st Century Fox Americ…).
How can employees of 21st Century Fox America Inc. get in touch with the Disney Benefits Center to inquire further about their employee benefits or to clarify any aspects of the pension plan? Having clear contact information and the process for accessing support can greatly assist employees in navigating their retirement preparation.
Contacting the Disney Benefits Center: Employees can reach out to the Disney Benefits Center at (800) 354-3970 for any inquiries related to their pension plan or other employee benefits. This resource is crucial for clarifying benefit details and addressing any concerns(21st Century Fox Americ…).