3 End of the Year Tax Strategies for Your Portfolio
Ahh, fall. Personally, this is my favorite time of the year. As we settle further into November, the lure of pumpkin spice lattes starts to give way to peppermint mochas and Ugg boots and it lets us know that the holidays are around the corner – which, if you can believe it, also means the end of the year.
As unbelievable as that may sound, the final 2 month stretch of 2022 is a great time to consider making strategic adjustments to your portfolio. Please keep in mind that the scenarios in this article are hypothetical illustrations of mathematical principals only, and there is no guarantee that any investment strategy will achieve its objectives.
Rebalancing
Rebalancing a portfolio before the end of the year has the potential to realign your investments with your long term financial goals. Rebalancing is essentially buying and selling stocks, bonds, and various other instruments in an attempt to return to your desired mix of equities and fixed income.
For example, if you’re employing the 60/40 investment mix where 60% of your portfolio is in equities and 40% is fixed income, there could be an opportunity to review where you’re over or under allocated and reposition those positions. If the market has drawn things down so your allocation is sitting at 50/50, then you have a chance to reorganize your positions and return to your desired 60/40.
Tax Loss Harvesting
If you have had losses this year in your non-retirement accounts (i.e, brokerage accounts), you may want to look at a strategy that has the potential to offset gains. Tax Loss Harvesting is effectively selling some of the positions you’ve experienced losses in to offset capital gains in other investments.
Let’s look at a hypothetical example. Stock A was bought earlier this year for $10,000 and stock B for $10,000. Stock A did well in the last 6 months and you’re deciding if you want to sell it for $15,000. That would be $5,000 short term capital gain! Conversely, stock B didn’t fare so well and you’re wrestling with the idea of selling it for a $5,000 capital loss. Selling Stock A for $15,000 and stock B for $5,000 would effectively create a wash – because the gain was offset by the loss.
It can be more complicated than that, but you get the idea.
Roth Conversions
A large IRA or 401k account balance is fun to look at when the market is good. The problem is, when those values go in the wrong direction, your smile goes with it. But it shouldn’t! A Roth Conversion gives you an opportunity to convert pre-tax dollars into post tax dollars with the potential to ride the long-term appreciation wave and participate in possible tax-free growth.
Let’s take this example: if you have a $1mm IRA and it drops to $750,000, you could do a conversion of $250,000 and move 1/3 of your portfolio into a Roth. Now there is $500k in an IRA and $250k in the Roth. The entire $250,000 would be taxable as ordinary income, but now the $250,000 is in a tax-free retirement account and if the market goes back up to its levels before the dip, your $250,000 could possibly be worth much, much more.
There is no cap on the amount you can convert but do remember it will be treated as ordinary income and will trigger tax consequences.
Conclusion:
With a whole host of options, including other possible income tax reducing tools, it’s important to work with a team that can help give you ideas and point you in the right direction.
Because we don’t like our clients paying any more taxes than necessary, we’re hosting weekly office hours on Thursdays from 3p to 5p PT for anyone who wants to talk with our team and get some advice on their portfolio.
95% of what we do is education and a lot of times after we explain the “how’s and the why’s” of certain approaches, folks decide to consult a reddit forum and they go an entirely different direction. To us though, it’s a win-win because we’re helping show how simplistic alternative solutions can possibly mean a big difference over the long run – especially to people in our community.