As we enter the 4th quarter of 2020, uncertainty remains in capital markets related to Covid-19, elections, etc. While much attention is often paid to financial issues outside our control, investors should focus their energy on tax efficiency areas, which are within their control. Additionally, with potential tax increases/changes resulting from the November elections, emphasis on these areas can pay off more than usual. While the below strategies are not for everyone, they may be worth discussing with your financial and tax advisors.
This strategy only applies to taxable brokerage accounts and involves selling portfolio positions with an “unrealized” capital loss and turning them into “realized” capital losses. A few important things to remember when executing this strategy: 1) You must own a position for at least 31 days before the sale and 2) Leave the position sold for at least 31 days after the sale for the losses to be realized for tax purposes. The harvesting of losses allows one to offset realized gains incurred from other areas of a portfolio and deduct up to $3,000 of losses against ordinary income if losses exceed realized capital gains. Lastly, if losses remain after offsetting gains and deducting the $3,000 against ordinary income, those losses can be carried forward to offset realized capital gains and income in future years.
Instead of fulfilling a charitable intent through the gifting of cash in 2020, look to gift appreciated stock. Despite below-average market performance in 2020, certain market areas, particularly the technology sector, may offer a gifting opportunity. The advantage of this strategy is the fulfillment of a charitable intent, the reduction of overweight positions without the realization of capital gains, and the opportunity to deduct these contributions against ordinary income if itemizing your deductions. Lastly, if you were looking to gift cash, you can repurchase the gifted stock, if you choose, and enjoy a step-up in cost basis.
This strategy involves voluntarily paying taxes early to convert money from a Traditional IRA (Tax-Deferred Account) to a Roth IRA (Tax-Free Account). Because paying taxes before it is necessary to defies most’s natural instinct, let me discuss the advantages. The strategy intends to pay taxes now in a lower tax bracket, and transfer money to the tax-free environment of a Roth IRA to avoid potentially greater taxes in the future. In addition, Roth IRAs have no Required Minimum Distributions (RMDs) later in life. While this strategy requires a more thorough understanding of one’s personal tax bracket, age, etc., there are tremendous advantages here if you find yourself in a lower tax bracket in 2020 and believe higher tax brackets are in your future.
**Note: With all the strategies mentioned above, it is important to consult your financial advisor, or tax professional, before executing. Everyone’s situation is different.**
Follow The Welch Group every Tuesday morning on WBRC Fox 6 for the money Tuesday segment.
Fox 6 Talking Points:
4th Quarter Investment Mindset: Focus on Tax
- Tax Loss Harvesting
- Charitable Gifting
- Roth Conversions
Marshall Clay CFP, JD, is a Partner and Senior Advisor at The Welch Group, LLC, which specializes in providing Fee-Only investment management and financial advice to families throughout the United States. Marshall is a graduate of the United States Military Academy in West Point, New York, the Cumberland School of Law in Birmingham, Alabama, and is a CERTIFIED FINANCIAL PLANNER™. In addition, Marshall is a frequent guest on local television stations as an expert on various financial planning matters.
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