Maybe we’ll see a Christmas miracle. Maybe it’s a cold winter in more ways than one. Definitely, no one will be able to fully predict what will happen to the global economy and markets in the coming months. The uncertainty of financial planning in a bear market could be enough for some people to avoid traditional year-end strategies and instead hold their ground until markets recover.
However, the current market environment creates financial planning opportunities not only to protect wealth, but also to set the stage for future growth.
Yes, even when the darkness of winter approaches.
Here are five things you might consider doing:
1. Convert Traditional IRAs to Roth IRAs.
Traditional IRAs don’t eliminate taxes, they defer them for the future. As the account grows, so does the tax liability. At some point, the IRS will be there to collect their percentage of your retirement savings, but what if you could buy Uncle Sam’s share of your IRA today?
Enter the Roth conversion. It doesn’t always make sense, but when the markets are down, likely deflating the value of an IRA, it’s an advantageous time to convert a traditional IRA to a Roth IRA — because of the tax cut to do so — and then enjoy capturing tax-free profits when the market picks up.
In addition, there are new regulations that make inherit traditional IRAs less advantageous because they will force faster withdrawals from the account than was required in the past. The SECURE Act changed the old rule to say that beneficiaries have 10 years to withdraw funds from an inherited IRA, but the new regulations make it even clearer if the original owner of the IRA was already taking required minimum distributions (RMDs)the heir must continue to take the RMDs before fully withdrawing the money in the tenth year of ownership.
By converting that traditional IRA to a Roth, the account holder would not be required to take the RMD, nor would the heirs, as long as the money is withdrawn before the 10th year.
A couple of final points about IRAs:
- You don’t have to convert an entire IRA at once. You can do as much as you want, whatever makes the most sense for your current situation. The key consideration here is what level of tax you will pay on the conversion.
- IRA contributions do not have to reach the maximum in a calendar year. You have until April 15 to do so, but you may not want to wait. The market can recover quickly, as it did during the start of the pandemic in 2020, so you don’t want to miss out on potential growth.
2. Loan to a grantor trust.
This is an estate tax planning strategy in which someone sets up a trust for their heirs and lends an asset, such as a business or equity, to the trust. but with current Applicable Federal Rates (AFR) (opens in a new tab) hovering above 4%, that number is four times higher than a year ago, apparently making this a less attractive strategy.
However, lending at 4% with the market down 25% in value is more attractive than 1% with the market at all-time highs. One of the main benefits of the strategy is that the growth remains in the trust of the heirs, free of any inheritance tax or inheritance tax. For wealthy people, those taxes can be huge, so by simply taking assets and lending them to a trust, the earnings usually avoid being subject to tax. federal state tax and state inheritance tax/inheritance tax.
Business owners, especially, are taking advantage of this strategy because their companies are probably worth much less than they were a year ago.
For example, if a company was worth $15 million last year but is worth $10 million today, you have a planning opportunity. That business owner could lend the business to a trust for $10 million (or less in some cases), so that if the business eventually repossesses and sells for $15 million, then the $5 million gain is generally protected by the 40% federal estate tax trust.
Ultimately, the growth potential of this strategy significantly offsets today’s much higher interest rates, and frankly, if you don’t expect to see growth above 4% for a given asset, chances are this strategy won’t do. produce many benefits, if any. .
3. Make more aggressive assignments.
Even the most cautious investors are beginning to recognize that they may be doing more to take advantage of today’s depressed markets. While most investment decisions should be made after discussion and consultation with a trusted advisorit is reasonable to consider more aggressive allocations to prepare your portfolio to capture the inevitable bounce.
For example, those who don’t have a lot of cash to spend and more conservative investments like bonds or real estate may want to sell and exchange the cash for stocks. These are usually not drastic changes, but 1% to 3% changes can make a considerable difference when made in depressed markets.
4. Harvest Tax Losses.
If you’re selling an investment you recently bought, chances are you’re in for a loss, and that’s not so bad. Take advantage of investment losses for tax deductions, or tax loss collectionis a useful strategy, with losses on short-term investments (securities held for less than 12 months) applied against the tax impact of short-term investment gains and losses on long-term securities (held for 12 months or more) applied against long term earnings.
Up to $3,000 in leftover losses can be used to offset other gains, and given the market condition, many investors may be able to use all of that. In fact, any remaining losses beyond the $3,000 limit can be carried over to the next tax year.
Any time tax loss collection is discussed, it should come with a reminder of the wash sale rulewhich says that investors must wait 30 days before repurchasing the same security for the sale to be recognized as such and the loss applied.
5. Fund a 529 College Savings Plan.
Your time horizon is short to save for your child’s education or future goals, even for young parents. Now is a good time to open a company with tax advantages 529 college savings plan and/or maximize the contribution if possible ($16,000 by 2022). The main advantage of a 529 plan is tax-free growth, so buying when market levels are low is generally to your advantage.
There is hope for 2023
When it comes to financial planning, growth is the easiest thing to get tax breaks for, and it’s much easier to predict growth when we’re coming off all-time market highs. If history tells us anything, the market is certain to recover, although the time it takes to return to previous levels is much more uncertain, so making the right moves now can help you capture that growth in a much more efficient way. from a tax point of view. .
Investing requires patience, often when it doesn’t feel right to do so. History has told us that we will return to where we were and then some. Here’s hoping it’s in 2023.
Remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk, and there can be no guarantee that the future performance of any specific investment, investment strategy or product (including investments and/or investment strategies recommended or made by Waldron Private Wealth (“WPW”) ) ), or any non-investment related content, directly or indirectly referenced in this newsletter will be profitable, will match any indicated corresponding historical performance level, will be suitable for your individual portfolio or situation, or will be successful. factors, including changing market conditions and/or applicable laws, the content may no longer reflect current opinions or positions. Furthermore, you should not assume that any discussion or information contained in this newsletter serves as the receipt of, or as a substitute for, personalized investment advice from WPW. To the extent a reader has any questions regarding the applicability of any of the foregoing to their individual situation, they are encouraged to consult with the professional advisor of their choice. WPW is not a law firm or certified public accounting firm, and nothing in the newsletter should be construed as legal or accounting advice. A copy of WPW’s current written Disclosure Brochure discussing our advisory services and fees is available upon request or at www.waldronprivatewealth.com.