End of Year Tax Manipulations
This can be a busy time of year at Financial Pathways as we try hard to optimize everyone’s tax situation based on their own personal needs. If you see a little extra portfolio activity in the coming weeks, it is probably Alex and I doing some buying and selling for tax purposes.
Effective tax planning is not as easy as just automatically harvesting losses to minimize capital gains income. Many firms and even robo-advisors can do that. But for many clients, minimizing gains doesn’t make sense. Everyone’s situation is unique. It is not only the current year that matters to us. After all, we are forward looking planners! Your future tax situation also flavors actions we may want to take today.
For instance, we may have one client who is early in retirement and has a very low income. We may want to convert some IRA money to a Roth IRA at their current low tax bracket. Or instead, it may be useful to harvest some capital gains (which are taxed at 0% as long as your taxable income is less than about $80,000). That might negate the need to take those gains in future years when their income is higher.
Another client may be in a higher income bracket and may have already realized some high capital gains this year. For this client we may need to review all their investment positions and “harvest losses” to offset capital gains. We usually can do this by selling a position that is down, and buying something similar so that the investment strategy is unchanged. Not too similar though! IRS rules prohibit taking a loss if you buy another equivalent security!
Another client may be a few years from starting large RMDs which will drive their income higher. Does it make sense to take a little extra income from retirement accounts this year to whittle those accounts down? Oh yeah, and then there is making sure everyone has taken their RMDs (already done with that!) and either sending those out as distributions or reinvesting them after paying the tax man.
Other clients may qualify to make Roth contributions, or for those who don’t, they may qualify to make a backdoor Roth contribution. We need to reach out and make these recommendations where appropriate.
Then complicating all this rather intensive planning – mutual funds must distribute any capital gains that they may have realized from their own investment activity during the year. Much of that activity is happening this week – and will force us to go back over everyone’s year to date gains again in the final 2 weeks of the year.
We would ask that our investment clients let us know if you have any special situations involving your income this year that we need to know about, let us know! Otherwise, we pretty much know where you stand tax-wise based on your financial plan and can act accordingly.