Just what you need, right? One more time-consuming task to be taken care of between now and the end of the year. But taking a little time out from the holiday chores to make some strategic saving and investing decisions before December 31 can affect not only your long-term ability to meet your financial goals but also the amount of taxes you’ll owe next April.
Look at the forest, not just the trees
The first step in your year-end investment planning process should be a review of your overall portfolio. That review can tell you whether you need to rebalance. If one type of investment has done well–for example, large-cap stocks–it might now represent a greater percentage of your portfolio than you originally intended. To rebalance, you would sell some of that asset class and use that money to buy other types of investments to bring your overall allocation back to an appropriate balance. Your overall review should also help you decide whether that rebalancing should be done before or after December 31 for tax reasons.
Also, make sure your asset allocation is still appropriate for your time horizon and goals. You might consider being a bit more aggressive if you’re not meeting your financial targets, or more conservative if you’re getting closer to retirement. If you want greater diversification, you might consider adding an asset class that tends to react to market conditions differently than your existing investments do. Or you might look into an investment that you have avoided in the past because of its high valuation if it’s now selling at a more attractive price. Diversification and asset allocation don’t guarantee a profit or insure against a possible loss, of course, but they’re worth reviewing at least once a year.
Know when to hold ’em
When contemplating a change in your portfolio, don’t forget to consider how long you’ve owned each investment. Assets held for a year or less generate short-term capital gains, which are taxed as ordinary income. Depending on your tax bracket, your ordinary income tax rate could be much higher than the long-term capital gains rate, which applies to the sale of assets held for more than a year. For example, as of tax year 2016, the top marginal tax rate is 39.6%, which applies to any annual taxable income over $415,050 ($466,950 for married individuals filing jointly). By contrast, the long-term capital gains rate owed by taxpayers in the 39.6% tax bracket is 20%. For most investors–those in tax brackets between 25% and 35%–long-term capital gains are taxed at 15%; taxpayers in the lowest tax brackets–15% or less–are taxed at 0% on any long-term capital gains. (Long-term gains on collectibles are different; those are taxed at 28%.)
Your holding period can also affect the treatment of qualified stock dividends, which are taxed at the more favorable long-term capital gains rates. You must have held the stock at least 61 days within the 121-day period that starts 60 days before the stock’s ex-dividend date; preferred stock must be held for 91 days within a 181-day window. The lower rate also depends on when and whether your shares were hedged or optioned.
Make lemonade from lemons
Now is the time to consider the tax consequences of any capital gains or losses you’ve experienced this year. Though tax considerations shouldn’t be the primary driver of your investing decisions, there are steps you can take before the end of the year to minimize any tax impact of your investing decisions.
If you have realized capital gains from selling securities at a profit (congratulations!) and you have no tax losses carried forward from previous years, you can sell losing positions to avoid being taxed on some or all of those gains. Any losses over and above the amount of your gains can be used to offset up to $3,000 of ordinary income ($1,500 for a married person filing separately) or carried forward to reduce your taxes in future years. Selling losing positions for the tax benefit they will provide next April is a common financial practice known as “harvesting your losses.”
Not sure how to get started? Contact us to help you get determine what strategy could work best for you.
Article provided by Broadridge Investor Communication Solutions, Inc.
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