Bryce Schuler
2024 has been a year of uncertainty. The world endured several surprise wars, a jittery economy, and an indecisive Federal Reserve. Headlines wavered between impending doom and potential boon. Our two Presidential candidates espoused divergent visions of our country’s future. Even fundamental economic principles, such as the relationship between growth and inflation, were called into question.
The year also brought some good news — at least for investors. As of December 10th, the S&P 500 was up over 28% in 2024. Meanwhile, the tech-heavy NASDAQ grew 33% and the Dow Jones gained 17% for the year. While investor rationale is up for debate, the bottom line is simple. Investors who remained disciplined were rewarded handsomely. Those who avoided markets missed out.
Investors should apply similar discipline this tax season. My recent election article explains that it is difficult to predict future legislative changes. Fortunately, there are various tried-and-true tax planning tips available in any environment. Some are even tailored specifically for today’s political climate.
The following six tax planning strategies are worth discussing with a financial advisor, accountant, and/or attorney. Note that certain strategies are complex and require personalized guidance.
- Review Tax-Loss Harvesting Opportunities
Tax-loss harvesting is an age-old tax management strategy for investors. The practice involves selling losing investments in taxable accounts, booking the losses, and purchasing replacement securities.[1] The losses can offset capital gains and/or up to $3,000 in ordinary income each year.
Losses are hard to come by in stock portfolios this year. However, investors may still have unrealized losses in their bond portfolios following the Fed’s rapid interest rate campaign. Investors should review their taxable accounts for any unrealized losses before year-end.
- Optimize Asset Location
The first step in portfolio design is asset allocation. This is where the investor selects a desired balance between stocks, bonds, cash, and other investments. The final mix determines the risk and return profile for a given portfolio.
The next step is asset location. This involves positioning assets where they receive the most favorable tax treatment. Different investments trigger different tax events: bonds generate regular interest, stocks pay periodic dividends, REITs distribute recurring income, and mutual funds make annual capital gains distributions. Each event’s tax treatment depends on the type of account holding the asset.
Investors should coordinate their holdings with the appropriate account type. It is generally prudent to hold high-tax assets, such as REITs and certain bonds, in IRAs and 401(k)s. Investors can then concentrate tax-efficient assets, like municipal bonds and certain growth stocks, in their taxable accounts.
- Contribute to Tax-Advantaged Accounts
One of the easiest tax-planning strategies is to optimize tax-advantaged accounts. These include 401(k)s, IRAs, HSAs, and others.
Readers should first confirm whether they are utilizing their company benefit plans. This can be accomplished with a simple trip to their HR departments. Benefits packages change every year, and many forgo important tax savings opportunities without realizing it.
Readers should also maximize their contributions to these accounts wherever possible. See BaldwinClarke’s 2024 Tax Overview for the current contribution limits and income thresholds.
- Evaluate Roth Conversions
Roth conversions are a common long-term tax planning strategy. The process involves transferring funds from a tax-deferred retirement account, such as a Traditional IRA or 401(k) Plan, to a Roth IRA. Individuals owe income taxes on any amounts converted. However, future withdrawals from the Roth IRA are tax-free if certain conditions are met.[2]
The chief advantage is flexibility. Someone with major one-time spending goals, such as a vacation home or a new car, can access large sums of money tax-free from a Roth IRA in retirement. Withdrawals from a Traditional IRA or 401(k) Plan are otherwise fully taxable.
Roth conversions can also result in real tax savings. Our progressive tax system means that high earners pay higher tax rates than low earners. Using the previous example, an individual funding large expenses from a Traditional IRA or 401(k) plan risks temporarily spiking his or her tax bracket. This problem can be mitigated or avoided entirely with Roth conversions.
A growing national deficit makes Roth conversions even more compelling. Many speculate that tax rates will rise in the future to cover our nation’s growing deficit. Those that pay their taxes now may benefit from today’s historically low tax rates.
- Consider Charitable Contributions
Charitable contributions can be deducted against your taxable income for the current year. These deductions are particularly beneficial for high earners.
Charitable deduction limits depend upon the charity classification, gift type, and income level for the taxpayer. Public charities, such as churches and schools, allow a taxpayer to deduct up to 50% of their adjusted gross income (AGI) for the current year. The limit rises to 60% of AGI if the taxpayer donates liquid cash to the charity. The limits are lower for private charities, such as foundations and fraternal orders. Unused deductions can generally be carried forward for up to five years.
An experienced advisor can optimize charitable gifting strategies by evaluating both the type of charity and the timing of the contribution. As mentioned, certain charity types provide enhanced tax benefits. Similarly, certain life stages offer greater savings opportunities, such as years when a taxpayer’s income is unusually high.
- Evaluate estate tax mitigation strategies
Federal laws currently allow individuals to transfer up to $13.61m to heirs without estate taxes. This exemption doubles to $27.22m for married couples.[3] Moreover, individuals can give up to $18,000 per beneficiary annually without gift taxes. These laws create a very favorable estate planning environment for proactive people.
The current estate tax exemption is both historically high and subject to change. Heirs can thank the Tax Cuts and Jobs Act of 2017 for enacting these limits. However, this bill’s provisions are set to expire on December 31, 2025. Before this date, Congress will decide whether to extend the exemption, make it permanent, or impose new limits entirely. The exemption will fall to the previous limit of $5.6m per individual if no action is taken.
Fortunately, the annual gift tax exclusion is not expected to change anytime soon. A simple strategy involves making outright lifetime gifts of cash, property, and other assets to heirs. This option is attractive for anybody with disposable assets, dependent family members, and/or long-term bequest goals. It is also likely to survive potential tax reform.
Complex strategies leverage the estate tax exemption using irrevocable trusts. The full scope of these techniques falls beyond the purpose of this article. Readers are encouraged to contact their advisor or attorney for individualized guidance. Philanthropic individuals might also consider certain charitable transfer strategies to further shelter assets from estate taxes.
Be Proactive, Not Reactive
Concerns over potential tax changes are nothing new. In fact, it was only three years ago that the newly elected Biden Administration announced plans to raise capital gains taxes for high earners. The proposal stalled in Washington and ultimately failed. Taxpayers who sold assets preemptively faced regret.
Readers should act on knowns rather than unknowns. Potential tax changes rely on a host of factors beyond any taxpayer’s control. It is critical to remain discerning and pragmatic in today’s inflammatory political environment.
Bryce Schuler is a CERTIFIED FINANCIAL PLANNER™ at BaldwinClarke in Bedford, NH. He and his team specialize in serving successful families, business owners, and organizations throughout New England.
[1] Investors may replace the losing investments with similar, but not identical, investments to maintain the desired portfolio allocation. This step is crucial to avoid violating the IRS’s “wash-sale” rule.
[2] Roth withdrawals must meet certain conditions to be fully tax-free. The Roth account typically must be open and funded for at least five years. In addition, the account holder must be age 59.5 or older at the time of the distribution or meet certain exceptions (e.g., death, disability, first-time home purchase).
[3] The estate and gift tax exemptions referenced in this article reflect 2024 rules.
