21 January 2024

Five Ways Taxes Enter the Wealth Planning Conversation

By Adrian Colarusso, CFA, CFP®

January 21, 2024

Our work with clients spans well beyond crafting investment portfolios. Minimizing lifetime taxes (not just this year’s) is perhaps the other single most important lever we can pull to build wealth.

The intersection of investments and taxes is nuanced and complex. But often, we can identify low-hanging fruit to create meaningful benefits now or down the road.

What on this list is relevant to your wealth picture? What’s not on this list that you’re interested in learning more about?

1.   Dialing in your retirement accounts

Failing to use precious annual capacity in tax-advantaged retirement accounts can curtail wealth creation by tens or hundreds of thousands of dollars.

The key decisions touch on where historical contributions are held, as well as where future contributions should be directed. We’re talking about both the types of accounts (401Ks, IRAs, SEP IRAs, Solo 401Ks, Defined Benefit Plans, etc) as well as the investments held within them.

Here are some areas for improvement we uncovered for our clients in 2023:

  • Are you holding assets in traditional (pre-tax) 401Ks and IRAs, Roth (post-tax), or a mix of both? Should you move any of these assets? Where are you directing this year’s contributions?
  • What should you do if you make too much money to contribute to a Roth IRA? Have your Traditional IRA assets all been previously deducted?
  • For business owners and independent entrepreneurs: does your entity have a retirement plan engineered to maximize the amount you can sock away tax-advantaged each year?
  • And so much more

2.   Changing positioning of taxable investments

We come across many haphazardly invested taxable accounts with embedded capital gains tax liabilities. They range from the sensible collection of ETFs (although often not in intentionally set proportions), to the random collection of individual companies, to the account stuffed with the stock of a current or former employer.

If potential capital gains taxes weren’t a factor, these portfolios might look very different.

So, what to do?

Before doing anything, we must analyze the trade-offs between taxes and risk.

The first step – and this might seem obvious but is often missed – is to sell positions at a loss. Sometimes, the overall position will be at a gain, but certain share lots will have a loss.

Then, we must prioritize which gains to realize. Which positions are driving the most risk in the portfolio? Which are less tax-encumbered than others?

Lastly, what techniques might be available to tax-efficiently migrate toward a more sensible investment posture over time?

Last year we wrote about how we brought direct indexing in-house at Target Rock, which can build custom portfolios around existing tax liabilities, and pinpoint tax loss harvesting opportunities to offset historical gains.

3.   Defining a strategy for stock compensation

Sin #2 of our Seven Sins of Stock Compensation: you walk right into a tax buzzsaw.

The trickiest aspect of stock compensation is navigating the interplay between taxes and risk.

It’s more straightforward to earn RSUs from publicly traded companies. More complex are stock options packages from startups.

Either way, stock comp provides a rich tapestry for our work, and we’d love to talk about how you can get the most out of your comp package by avoiding common tax pitfalls.

4.   Reducing estate tax liabilities

Departing from earthly existence in 2024 America will trigger estate taxes for those with more than $13.61 million in net wealth. Sound high? Those with much less should start thinking about estate tax liabilities sooner than they think they need to.

The first is that the abnormally high exemption is set to sunset in 2026 and revert to about half of the current level. Political and fiscal factors could cause the estate tax exemption to fall further before the decade is out.

The second is compounding. Anyone within striking distance of the estate tax exemption limit might experience investment growth that can tip them over.

Clients pursue a wide variety of objectives in the very personal process of estate planning, which is about way more than just taxes. We’ll write more about estate planning in coming newsletters.  

5.   Maximizing the tax-efficiency of your charitable giving

We care deeply about supporting non-profits in our community, and we helped several clients build charitable giving war chests last year.

If you care about charitable giving, and you have appreciated assets with a capital gains tax liability attached, we should talk.

In short, don’t donate cash if you have appreciated assets. Pay close attention to whether you itemize deductions on your tax returns, and how changing tax rules might affect you.

We can help engineer a charitable giving strategy that maximizes your impact by minimizing lifetime taxes.

This list only scratches the surface

Taxes are immensely complex and ever changing. This newsletter would be many times longer if we included every example of how taxes enter the conversation with our clients.

Note that even though we know plenty about taxes, we aren’t CPAs and don’t technically offer tax advice or tax filing, so consult those qualified professionals before implementing.