A recent SEI advisor survey (see the article in Advisors4Advisors) reported a trend of increasing awareness of tax impacts on investments. Of more than 170 advisors,
69% say clients are asking more tax-related questions.
81% say they take tax management into consideration when managing investments for clients.
62% say they harvest tax losses at the end of the year.
These numbers can lead to the following conclusions: 1) Clients are more concerned about taxes and 2) As a result, advisors are becoming more concerned about taxes.
We’ve always known that clients hate to pay taxes. What is different now is that clients are more aware of how taxes work. They know the difference between capital gains rates and ordinary tax rates. They are familiar with the tax increases imposed by the Medicare surtax. They have experienced the Alternative Minimum Tax. While they might not understand the details, clients know enough to ask their advisors about tax management.
Is it enough to buy municipal bonds in taxable accounts and harvest tax losses at the end of the year? In the past, maybe yes. In today’s world, the answer is a resounding no. You must “talk the talk” and “walk the talk.” In other words, you must let your clients know that you are a tax savvy advisor – and you must actually take the actions required to save your clients tax dollars.
This means you must take tax efficient portfolio management to a higher level. Lowering your clients’ tax bills is a means of adding value without adding risk. And, it answers one of your clients’ top concerns.
So, what does it take to raise tax efficient portfolio management to a higher level? It means location optimization, avoidance of short-term gains and wash sales, opportunistic tax loss harvesting and capital gain distribution avoidance at year end. (For further information on these strategies, please see my previous blogs.) It’s tough to do all this with spreadsheets. However, if you don’t want to make the jump to automated rebalancing (which you should, but that’s another article…), there are simplified methodologies, as follows:
Location Optimization: Put fixed income into IRAs and other retirement accounts; put your highest return/highest risk asset (such as emerging markets equity) into Roths.
Avoiding Short-Term Gains: Use your custodian’s “best tax” option for tax lot identification.
Avoiding Wash Sales: Don’t reinvest dividends and don’t trade more than once a month.
Opportunistic Tax Loss Harvesting: Look for major market movements and substitute out one particular fund in your clients’ taxable accounts.
Capital Gain Distribution Avoidance: Identify only one or two funds with significant estimated capital gain distributions. Follow that by identifying clients holding significant amounts of the particular fund(s). From there, you should have a workable subset of clients that justify more detailed analysis.
It’s time to raise your game! By doing that, you will save your clients money and increase your own bottom line.