Five Tax Techniques for High Net Worth Clients: Every Day Is Tax Day

The tax filing season in the US should be more comprehensive than just March and April. The tax However, far too frequently, tax preparation advice focuses almost exclusively on finding deductions. An error can cause customers to leave their funds on the table. The CEOs of a few of the biggest publicly listed and privately owned firms in the United States are among the high-net-worth people (HNWIs) I’ve worked with, and many fail to reduce their taxes. They may need a strategic tax advising staff or be time-constrained.

HNWIs tend to see investments from the perspective of quick profits; they need to consider the charges, tax liabilities, and long-term returns. And it is in these areas that wealth managers and financial advisors may be most beneficial.

Continuous Tax Code Changes Need perpetual tax planning.

Since 2001, the tax code has also undergone about 6,000 revisions or amendments. The most significant change to the tax system in 30 years was made with the passage of the tax cut and job act in 2017. The intricacy can become daunting when the SECURE Legislation, the SECURE Act 2.0 proposal, and the associated modifications to retirement plan requirements are included. For HNWIs, the initial SECURE Act, which went into force in 2020, has various effects. The age restriction on IRA contributions was also lifted, and the required minimum distributions (RMDs) were delayed from age 71/2 to 72. The SECURE Act 2.0, approved by the House of Representatives and currently being debated by the Senate, would raise the RMD age to 75 and provide pre-RMD years more time for preparation.

So, taxes are always complex and continuously changing, regardless of how we view them. These are my five significant tax planning and saving ideas to assist our clients in managing them.

• Prioritize employer benefits first.

Employer benefits should be utilized often and early by clients with earned income. While 401(k) alternatives are now quite common, high-income individuals must use additional beneficial options, including health savings accounts (HSAs) and mega-backdoor Roth possibilities.

Let’s look at the math: If a customer contributes $7,300 each year to an HSA, the maximum amount for families in 2022, they will have $146,000 in their account after 20 years. They will also have $320,000 if their funds increase at a 7% yearly rate. Clients can release these funds penalty-free beyond age 65 if they don’t utilize them for medical costs; however, payouts are subject to ordinary income tax. At a combined tax rate of 35%, even if they use them for assisted living, unpaid medical expenses, or other health care, they save about $110,000 in income taxes.

• Employ Options for Charity Gift Planning

Clients can also employ donor-advised funds (DAFs), charitable trusts, and valued long-term securities in place of cash to optimize their tax savings. They can give away these stocks without realizing profits, and they may time the income tax exemption to fall during a year with a high tax rate.

Say, for instance, that a customer donates $250,000 in cash to a charitable organization but later needs that money for living costs. To make that possible, they offer $250,000 worth of assets with a $100,000 cost basis. They might have saved close to $50,000 if the gift had been made in shares and the personal costs had been paid in cash. The takeaway is that long-term, valued shares should be considered when arranging charitable gifts. Also, clients might desire to condense their philanthropic donations into a year with a high tax rate. It may result in significant, long-term tax savings.

• Harvesting Tax Losses in Weak Markets

Customers dislike seeing unrealized losses on their investment portfolio statements or investments that aren’t worth their investment. But, if they must pay capital appreciation now or shortly, they could wish to sell such holdings to realize a business loss and benefit from the associated tax advantages.

Let’s take an example where a customer sold a real estate investment they had made this year that made $100,000 profit and had a stock investment that lost $100,000. They might offset the property investment gain and avoid paying taxes if they liquidated the stock and realized the loss, thus monetizing a paper loss. However, their entire investment position would remain the same if they reinvest the profits from the stock sale into comparable security. (That is, if they didn’t invest the same amount of money. The washing sale rule would be broken, and the loss would be useless.) This method might be valuable even if the customer didn’t anticipate additional gains for many years because capital losses can be carried forward forever.

• Pre-Tax IRA conversion to Roth IRA

During weak markets and little income, clients should switch their pre-tax IRA toward a Roth IRA. Although Roth IRAs do not offer an initial tax advantage, the growth and distribution of contributions and profits are tax-free. On the other hand, a pre-tax IRA provides a tax break when it is first opened, but when money is disbursed, it is subject to ordinary income taxes. Transferring pre-tax IRAs to Roth IRAs can reduce the overall tax paid on distributions with appropriate marginal rate tax planning.

Although this is usually a wise tax-planning move, the current climate can make it particularly wise. Due to market decreases in 2022, the current conversion tax, which the present value will determine, should be considerably lower compared to what it might have been last winter. Clients might profit from the additional growth when the market recovers tax-free because they previously paid the tax upon conversion.

• Arrange your estate and your taxes together.

Customers should consider giving revenue investments and assets with unrealized gains to relatives who are in lower tax rates while viewing the “kiddie tax” regulations. A parent with the highest tax rate may give their children up to the yearly exclusion amount if they own a long-term stock worth $32,000 with an unrealized gain of $20,000. They can give the child the store directly rather than selling it and giving the proceeds in cash, which might result in a nearly $5,000 federal tax bill. The time frame and cost basis would be applied to the kid. Moreover, they might sell the shares and realize the gain at their tax rate as long they’re no longer dependent.

This tactic may be particularly appropriate for adult children enrolled in graduate study or just beginning their professions. They may qualify for a federal lengthy capital gains rate of zero percent and be able to sell the shares tax-free.