Top Year-End Investment Tips
By Steven D. Brett, President of Marcum Financial Services LLC; Branch Manager, Raymond James Financial Services, Inc.
Just what you need, right? One more time consuming
task to be taken care of between
now and the end of the year. But taking a little
time out from holiday chores to make some
strategic saving and investing decisions before
December 31 can affect not only your long-term ability
to meet your financial goals, but also the amount of
taxes you'll owe next April.
Look at the forest, not just the trees
The first step in your year-end investment planning process
should be a review of your overall portfolio. That review can
tell you whether you need to rebalance. If one type of
investment has done well–for example, large-cap stocks–it
might now represent a greater percentage of your portfolio
than you originally intended. To rebalance, you would sell
some of that asset class and use that money to buy other
types of investments to bring your overall allocation back
to an appropriate balance. Your overall review should also
help you decide whether rebalancing should be done
before or after December 31 for tax reasons.
Also, make sure your asset allocation is still appropriate
for your time horizon and goals. You might consider being
a bit more aggressive if you're not meeting your financial
targets, or more conservative if you're getting closer to
retirement. If you want greater diversification, you might
consider adding an asset class that tends to react to
market conditions differently than your existing investments.
Or you might look into an investment that you have
avoided in the past because of its high valuation if it's now
selling at a more attractive price. Diversification and asset
allocation don't guarantee a profit or insure against possible
loss, of course, but reviewing at least once a year is the best
way to maximize their potential profitability.
Know When to Hold 'em
When contemplating a change in your portfolio, don't forget
to consider how long you've owned each investment.
Assets held for a year or less generate short-term capital
gains, which are taxed as ordinary income. Depending on
your tax bracket, your ordinary income tax rate could be
much higher than the long-term capital gains rate, which
applies to the sale of assets held for more than a year. For
example, as of tax year 2015, the top marginal tax rate is
39.6%, which applies to any annual taxable income over
$413,200 ($464,850 for married individuals filing jointly).
By contrast, the long-term capital gains rate owed by
taxpayers in the 39.6% tax bracket is 20%.
For most investors–those in tax brackets between 25% and
35%–long-term capital gains are taxed at 15%; taxpayers
in the lowest tax brackets–15% or less–are taxed at 0%
on any long-term capital gains. (Long-term gains on
collectibles are different; those are taxed at 28%).
Your holding period can also affect the treatment of qualified
stock dividends, which are taxed at the more favorable
long-term capital gains rates. You must have held the stock
at least 61 days within the 121-day period that starts 60
days before the stock's ex-dividend date; preferred stock
must be held for 91 days within a 181-day window. The
lower rate also depends on when and whether your shares
were hedged or optioned.
Make Lemonade from Lemons
Now is the time to consider the tax consequences of any
capital gains or losses you've experienced this year.
Though tax considerations shouldn't be the primary driver
of your investing decisions, there are steps you can take
before the end of the year to minimize any tax impact of
your investing decisions.
If you have realized capital gains from selling securities at
a profit and you have no tax losses carried forward from
previous years, you can sell losing positions to avoid being
taxed on some or all of those gains. Any losses over the
amount of your gains can be used to offset up to $3,000
of ordinary income ($1,500 for a married person filing
separately) or carried forward to reduce your taxes in future
years. Selling losing positions for the tax benefit they will
provide next April is a common financial practice known
as "harvesting your losses."
Example: You sold stock in ABC Company this
year for $2,500 more than you paid when
you bought it four years ago. You decide
to sell the XYZ stock that you
bought six years ago because it
seems unlikely to regain the
$20,000 you paid for it. You sell
your XYZ shares at a $7,000 loss.
You offset your $2,500 capital gain on
your ABC shares, offset $3,000 of
ordinary income tax this year,
and carry forward the remaining
$1,500 to be applied in future
Time any Trades Appropriately
If you're selling to harvest losses in a stock or mutual fund
and intend to repurchase the same security, make sure
you wait at least 31 days before buying it again. Otherwise,
the trade is considered a "wash sale," and the tax loss will
be disallowed. The wash sale rule also applies if you buy
an option on the stock, sell it short, or buy it through your
spouse within 30 days before or after the sale.
If you have unrealized losses that you want to capture but
still believe in a specific investment, there are a couple of
strategies you can employ. If you want to sell but don't
want to be out of the market for even a short period, you
could sell your position at a loss, then buy a similar
exchange-traded fund (ETF) that invests in the same asset
class or industry. Or you could double your holdings,
then sell your original shares at a loss after 31 days. You'd
end up with the same position, but would have captured
the tax loss.
If you're buying a mutual fund or an ETF in a taxable
account, find out when it will distribute any dividends or
capital gains. Consider delaying your purchase until after
that date, which often is near year-end. If you buy just
before the distribution, you'll owe taxes this year on that
money, even if your own shares haven't appreciated.
And if you plan to sell a fund anyway, you may minimize
taxes by selling before the distribution date.
Note: Before buying a mutual fund or ETF, don't forget
to consider carefully its investment objectives, risks, fees
and expenses, which can be found in the prospectus
available from the fund. Read the prospectus carefully
Know Where to Hold 'em
Think about which investments make sense to hold in a
tax-advantaged account and which might be better for
taxable accounts. For example, it's generally not a good
idea to hold tax-free investments, such as municipal
bonds, in a tax-deferred account (e.g., a 401(k), IRA, or
SEP). Doing so provides no additional tax advantage to
compensate you for tax-free investments' typically lower
returns. And doing so generally turns that tax-free income
into income that's taxable at ordinary income tax rates
when you withdraw it from the retirement account. Similarly, if
you have mutual funds that trade actively and therefore
generate a lot of short-term capital gains, it may make
sense to hold them in a tax-advantaged account to defer
taxes on those gains, which can occur even if the fund
itself has a loss. Finally, when deciding where to hold
specific investments, keep in mind that distributions from
a tax-deferred retirement plan don't qualify for the lower tax
rate on capital gains and dividends.
Be Selective About Selling Shares
If you own a stock, fund or ETF and decide to unload some
shares, you may be able to maximize your tax advantage.
For a mutual fund, the most common way to calculate cost
basis is to use the average cost per share. However, you
can also request that specific shares be sold--for example,
those bought at a certain price. Which shares you choose
depends on whether you want to book capital lossesto offset gains, or keep gains to a minimum to reduce the
tax bite. (This only applies to shares held in a taxable
account). Be aware that you must use the same method
when you sell the rest of those shares.
Example: You have invested periodically in a stock for five
years, paying various prices, and now want to sell some
shares. To minimize the capital gains tax you'll pay on
them, you could decide to sell the least profitable shares,
perhaps those that were only slightly lower when purchased.
Or if you wanted losses to offset capital gains, you could
specify shares bought above the current price.
Depending on when you bought a specific security, your
broker may calculate your cost basis for you, and will
typically designate a default method to be used. For
stocks, the default method is likely to be FIFO ("first in, first
out"); the first shares purchased are considered the first
shares sold. As noted above, most mutual fund companies
use the average cost per share as your default cost basis.
With bonds, the default method amortizes any bond
premium over the time you own the bond. You must notify your
broker if you want to use a method other than the default.
Ten Year-End Investment Planning Strategies for 2015
Invest in municipal bonds to generate tax-free income.
Municipal bonds become more attractive on a relative tax
basis for taxpayers who find themselves subject to the
3.8% surtax and who may also be subject to the highest
(39.6%) marginal rate. The tax equivalent yield, i.e., the
yield an investor would require in a taxable bond investment
to equal the yield of a comparable tax-free municipal
bond, has increased for those taxpayers.
While all bonds have risks, municipal bonds may have a
higher level of credit risk as compared with government
bonds and CDs. Capital gains, if any, are taxable for
federal and, in most cases, state purposes. Income from
federally tax-exempt funds may be subject to state and
- Utilize strategies to reduce or avoid taxable income.
Contributing to a retirement plan or IRA, funding a flexible
spending account (FSA) or deferring compensation
income can reduce adjusted gross income (AGI) and
prevent a taxpayer from reaching key income thresholds
that may result in a higher tax bill. Maximizing use of tax
deductions such as charitable contributions or mortgage
interest can offset income as well. Conversely, be mindful
of transactions, such as the sale of a highly appreciated
asset, which may increase your overall income above
thresholds for the 3.8% surtax, the income phase-out of
itemized deductions or the new highest marginal tax rates.
Consider Roth IRA/401(k) contributions or conversions.
A thoughtful strategy utilizing Roth accounts can be an
effective way to hedge against the direction of future tax
rates in light of the longer-term federal budget deficit
challenge. Younger investors or taxpayers in lower tax
brackets should consider using Roth accounts to create a
source of tax-free income in retirement. It is virtually impossible
to predict tax rates in the future or to have a good idea of
what your personal tax circumstances will look like years
from now. Like all income from retirement accounts, Roth
income is not subject to the new 3.8% surtax and also is
not included in the calculation for the $200,000 income
threshold ($250,000 for couples) to determine if the new
Asset "location": Allocate assets by tax status.
In general, consider placing a larger percentage of your
stock holdings outside of retirement accounts and a larger
percentage of your fixed-income holdings inside retirement
accounts. With respect to stock investments, allocating a
greater proportion of your buy-and-hold or dividend-paying
investments to taxable (i.e., non-retirement) accounts may
increase your ability to benefit from a lower tax rate on
qualified dividends and long-term capital gains.
Be mindful of irrevocable trusts and taxes.
Because of the low income threshold ($12,300 for 2015),
which will subject income retained within an irrevocable
trust to the highest marginal tax rates and the 3.8%
Medicare surtax, trustees may want to reconsider
investment choices inside of the trust (municipal bonds,
life insurance, etc.). Or, maybe trustees should consider
(if possible) distributing more income out of the trust to
beneficiaries who may be in lower income tax brackets.
- Review estate planning documents and strategies.
The permanency of the historically high $5 million exemption
(indexed for inflation) may have unintended consequences
for some individuals and families with wealth below that
threshold. They may think that they do not have to plan for
their estates. However, taxes are just one facet of estate
planning. It is still critical to plan for an orderly transfer of
assets or for unforeseen circumstances such as incapacitation.
Strategies to consider include proper beneficiary
designations on retirement accounts and insurance
contracts, wills, powers of attorney, health-care directives
and revocable trusts.
Plan for potential state estate taxes.
While much attention is focused on the federal estate tax
exemption threshold, it is important to know that many
states do have estate or inheritance taxes. There are a
number of states that are “decoupled” from the federal
estate tax system. This means the state applies different
tax rates or exemption amounts. A taxpayer may have net
worth comfortably below the $5 million exemption amount
for federal estate taxes, but may be well above the exemption
amount for his or her particular state. It is important to
consult with your accountant or attorney on specific
state law and potential options to mitigate state estate or
Evaluate whether to transfer wealth during lifetime
or at death.
The unified lifetime exemption amount for gifts and estates
($5,430,000 for 2015) provides flexibility for taxpayers to
decide whether to transfer wealth while living or at death.
Lifetime gifting shelters appreciation of assets post-gift
from potential estate taxes, helps heirs now and utilizes
certain valuation discounts available through strategies
such as family limited partnerships. Transferring assets at
death allows individuals to maintain full control of
property while living and benefit from step-up in cost
basis at death.
Consult with your accountant or attorney to see
if more complex wealth transfer techniques may be
Individuals and families with significant wealth, especially
within non-liquid assets such as real estate or closely
held businesses, may benefit from a range of more
complicated strategies to efficiently transfer wealth.
Examples include grantor trusts, family limited partnerships,
and dynasty trusts. Recently, there has been more scrutiny
among lawmakers, which could prompt restrictions in how
these strategies are implemented. It may be prudent to
examine these options while they are still viable alternatives.
Evaluate whether a Credit Shelter Trust (CST)
A properly designed CST will shelter appreciation of
assets from the estate tax after the death of the first
spouse. However, since the portability provision allowing
a surviving spouse to utilize the unused exemption amount
of a deceased spouse is permanent, is trust planning
actually necessary? There are some benefits for still
utilizing a credit shelter trust including protection of
assets from potential creditors, spendthrift protection for
trust beneficiaries, planning for state death taxes and
preserving the Generation Skipping exemption, which is
not portable. However, costs and effort are required to
establish the trust, while the portability provision does
not involve any special planning. Additionally, assets
transferred to a trust at the death of the first spouse do
not receive a step-up in cost basis at the death of the