Executive With Concentrated Employer Stock and Charitable Intent
Alan, 58, is a division president at a publicly traded company. His portfolio is $2.25 million: $1.40 million in employer stock with a cost basis of $180,000, $420,000 in a diversified 401(k), $300,000 in a taxable brokerage account, and $130,000 in cash. The employer stock is 62% of the portfolio. He plans to retire at 65, needs $110,000 per year before tax in retirement, and expects $38,000 per year from Social Security at 67. He has a moderate risk tolerance but admits he has never sold company stock because it built the family's wealth. He wants to leave $250,000 to his alma mater and values charitable giving. His 10b5-1 plan window opens next quarter; insider trading policy restricts sales to open windows and requires pre-clearance. He is married, files jointly, and is in the 32% federal bracket plus 5% state tax.
1. Quantify the concentration and explain why it is a portfolio risk even if Alan believes in the company.
Read the worked answer
Concentration: $1.40 million / $2.25 million = 62.2% of the portfolio in one stock. A 40% decline in the stock would lose $560,000 and reduce the total portfolio to about $1.69 million, a 24.9% portfolio decline. A 60% decline would lose $840,000 and cut the portfolio by 37.3%. This is not just volatility; it is uncompensated idiosyncratic risk.
Why it matters: Alan's salary, bonus, and possibly retirement plan are also tied to the company. If the company struggles, his human capital and financial capital can fall together. The stock may also be hard to sell because of insider-trading windows, pre-clearance, and blackout periods. His statement that the stock built the family's wealth is an anchoring bias; past gains do not reduce the forward risk.
Conclusion: The position is too large for a moderate-risk retiree-to-be. The planning target should be a staged reduction to roughly 10-15% of the portfolio, not an immediate all-at-once sale that triggers a large tax bill.
2. Recommend a tax-aware diversification plan over the next three to five years, including the charitable goal and trading restrictions.
Read the worked answer
Tax cost first: The embedded gain is $1.40 million - $180,000 = $1.22 million. A full sale could face roughly 32% federal + 5% state + 3.8% net investment income tax on the gain, or about 40.8%, roughly $498,000 before any bracket effects. That is too large a one-year tax cost.
Three-to-five-year plan:
- Set a written target of 10-15% in employer stock.
- Sell in tranches during open windows using a 10b5-1 plan and pre-clearance; do not sell outside policy.
- Use the $250,000 charitable goal to donate low-basis shares to a donor-advised fund or other charitable vehicle. That avoids recognizing the gain and may produce a deduction, while diversifying the portfolio economically.
- Reinvest proceeds into a diversified, low-cost asset allocation consistent with the IPS.
- Rebalance with new contributions and stock sales rather than selling diversified assets.
Judgment: A charitable gift of shares is more tax-efficient than selling shares, paying tax, and donating cash. A charitable remainder trust could be evaluated if Alan wants income and diversification, but it is irrevocable and should not be used without separate advice. The plan should prioritize steady diversification over tax perfection.
3. How should the investment policy statement treat the concentrated stock, liquidity, and the charitable goal?
Read the worked answer
IPS treatment: The IPS should state a maximum single-stock exposure, for example 15%, with a transition schedule from 62% to that target over three to five years. It should also forbid new voluntary purchases of company stock and require that newly vested restricted shares be sold at vest unless a written exception is approved.
Liquidity: With $130,000 cash and $300,000 in a taxable account, Alan has some liquidity, but the IPS should set a cash reserve of at least two years of portfolio withdrawals and identify which accounts fund it. Retirement spending is $110,000 before tax; after $38,000 Social Security, the portfolio gap is $72,000, so the reserve should be meaningful.
Charitable goal: The IPS should separate the $250,000 charitable target from the retirement portfolio and specify that it will be funded primarily with low-basis shares rather than cash. That aligns the charitable intent with the diversification problem.
Behavioral guardrail: Include a precommitment rule that sales continue on schedule even when the stock is rising, and require a written review before any exception. The IPS should be updated when insider rules, tax law, or retirement timing changes.