August 25, 2021
With the mid-year mark in our rearview mirror, there are reasons to be optimistic about our pandemic economic recovery, which has shifted into an expansion phase and could gain steam in the coming months. But that doesn’t mean you can become lax when it comes to financial health.
We could see more volatility and fewer tailwinds. Virus mutations could lead to higher infection rates and more lockdowns, while a rising inflation could eventually trigger interest rate hikes. New tax policies could adversely impact assets values. And life events mean financial goals need to be constantly reevaluated.
That brings us to the mid-year checkup. This review is critical to fortifying assets against new risks and ensuring portfolios are still in sync with your financial goals. The idea is to reinforce good practices installed by your financial team and determine whether new measures are needed.
Harvest tax losses
Tax-loss harvesting or selling securities at a loss to offset capital gains taxes, is a priority with any portfolio checkup. Even if you don’t currently have any gains, the losses can be used to offset future capital gains. If you have more capital losses than gains in a tax year, you may be able to use up to $3,000 a year to offset ordinary income on income taxes and carry over the rest to future years.
Taking capital losses in a security you wish to continue owning may be a good strategy. The IRS, however, does not allow investors to take a tax deduction for a security sold in a wash sale, which occurs when an investor sells or trades a security at a loss and, within 30 days before or after that sale, buys another “substantially” similar security. It also occurs when an investor’s spouse or a company controlled by the investor buys a substantially similar security within that 61-day span. You can avoid the wash sale either by waiting 30 days to repurchase the same security or by purchasing a similar but not “substantially” similar security.
Take capital gains
Under President Biden’s plan, we are likely to see the top tax rate on long-term capital gains rise from 20% to 25 or potentially 28% for high income taxpayers.
The new rate would also impact individuals who experience a liquidity event that increases income over the higher capital gains rate threshold in a single year. So if you’re planning on selling a business, company stock, or maybe even your home to help fund your retirement, consider selling it this year rather than next. This decision, of course, would have to be weighed against the risk of selling too low as part of an expedited transaction.
The higher rate may also impact anyone who has a significant portfolio and has held the same securities for a long period of time, we call these legacy positions. Legacy positions may not align with the target portfolio. As financial planners, we often encounter clients who are reluctant to align their portfolio to their target because they do not want to sell legacy positions and take the gains. To combat this, we often set up a “capital gains tax budget” to ensure those clients take a certain amount of gains every year and slowly transition to where we want them to be. If this applies to you, consider accelerating that budget to offset the potential tax hike next year.
Take required minimum distributions
One of the most significant changes in 2020 was the suspension of required minimum distributions (RMD) from qualified retirement accounts.
That exception, however, was unique to last year and will not likely happen again in the foreseeable future. This year, you need to take RMD. If you are charitably inclined You may want to consider using up to $100,000 of your required minimum distribution for a qualified charitable distribution (QCD), a tax efficient way to donate to charity while consuming some of your required minimum distribution.
Budgeting liquidity for estimated tax payments and capital calls should be an ongoing exercise to cover unexpected needs as much as possible. If the market suddenly goes down 40% and you need $500,000 to pay taxes or fund a capital call, you do not want to be forced to sell securities in a market low. Consider setting aside enough cash to meet budget needs every year and check that liquidity mid-year.
There are a few options here to consider. You could budget liquidity by setting up a low margin account, with current margin rates around 1.25% for high net worth and ultra- high net worth individuals. You could also set up an interest only credit line, taking advantage of the low rate. You may never need to draw on these vehicles, but they serve as buffers between you and a securities sell-off.
Maximize retirement savings
You should strive to maximize savings in your retirement accounts, contributing as much as your employee plans and other vehicles allow. If your income is too high to directly contribute to a Roth IRA, consider contributing to a non-deductible IRA and converting the IRA to a Roth for a backdoor Roth contribution.
Check credit score
Don’t forget to check your credit score to help monitor identity theft. This can be done daily with no risk of harming your score. We often find that more affluent individuals neglect this step, assuming their score will remain in good standing. It’s important to check your credit regularly to ensure your financial identity has not been compromised and that none of your accounts register suspicious activity.
Freezing your credit can also help protect against fraud, particularly if you’re worried someone may be trying to use your credit. With frozen credit, an extra level of security is required for someone to take out a loan or get a new credit card. Anyone who tries to open an account up under your name will be denied. You can request that your credit be unfrozen if necessary.
Mid-year state of mind
These measures work collectively to help maintain your financial health –if you are vigilant about undergoing regular checkups to ensure they are consistently applied. It’s a process best addressed through semiannual or quarterly meetings with a financial advisor. Then, as the world shifts around us—or as your life takes unexpected turns—you at least know your portfolio is working for you with maximum potential to flourish.
Mallon FitzPatrick, CFP®, is a Principal and Managing Director at Robertson Stephens Wealth Management, LLC, an independent SEC-registered investment advisor that provides wealth management solutions for high-net-worth individuals and family offices nationwide.
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