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Why tax planning is such a critical factor in financial planning


As we wrap up the first phase of our “tax season” and April 15th is behind us, I thought it might be helpful to share some thoughts on why tax planning has become so critical for individuals in their overall personal financial planning.

  • Investment Strategies. Since the passage of the American Taxpayer Relief Act and the enactment of the net investment income tax last year, many of our clients are faced with a significantly higher income tax rate on investment income. It is causing many to step back, look at their investment strategies and analyze the tax implications of those investment strategies. 
  • Asset Placement. Asset placement issues are a critical piece of the planning picture. We think it’s particularly important to do two things: 1) decide whether fixed income that generates a lot of taxable income should be in retirement accounts, Roth IRAs or regular accounts; and 2) determine whether higher growth equities that are taxed at a lower rate belong outside of the retirement account.
  • Harvesting Gains. Harvesting gains can be part of your overall strategy, even in this environment with higher tax rates on capital gains. Trying to plan that around your  income each year over a multi-year period is the best way to identify where to incorporate capital gains. We believe that harvesting gains can make sense in the right scenarios, especially for clients with low incomes due to business losses in a particular year.   
  • Planning for Retirement. One of the main issues we help our clients address is focusing on retirement planning. This area integrates a number of aspects of financial planning and incorporates a number of assumptions about rates of return, inflation, etc.  Determining whether your assets will last for your lifetime and then looking at where the income stream is going to come from (such as an IRA, a pension or from a regular account) is a key part of this process.  Integrating the tax planning aspects of this into the process is critical.
  • Roth Conversions. When we do multiyear tax planning, we look for opportunities where your income might be lower in a given year. This can create the opportunity to convert some of your retirement accounts to Roth IRAs which are never taxed in the future and do you require you to take out annual Required Minimum Distributions (RMD). A great aspect of the Roth conversion is that you can undo it by the due date of your tax return (including extensions), so you essentially have 50/50 hindsight in determining what the tax impact is on the prior year’s returns.

If we have not had a chance to have these conversations with you during this tax season, we would be glad to set up a time to discuss them at your convenience. We truly believe that the value we bring to our relationship with you is in the ongoing tax and financial planning we provide!