Sell Losing Securities Versus Profitable Ones

The decision to sell losing securities versus profitable ones is ultimately dependent on individual investment goals, risk tolerance, and tax considerations.

Selling losing securities, also known as tax-loss harvesting, can have tax benefits as investors can use their capital losses to offset capital gains and potentially reduce their overall tax liability. Additionally, selling losing securities can help investors realize losses and move on from underperforming investments. However, it is important to keep in mind that selling a losing security too quickly may result in missing out on potential future gains.

On the other hand, selling profitable securities, also known as capital gains harvesting, can lock in gains and provide investors with cash flow. However, selling profitable securities may also result in triggering capital gains taxes.

Ultimately, the decision to sell losing or profitable securities should be based on a thorough analysis of individual circumstances and investment goals, including tax implications, diversification, and risk tolerance. It may be wise to consult with a financial advisor or tax professional to help make informed investment decisions.

Why 2% Inflation Rate Target?

The inflation rate target of 2% is a common goal among many central banks, including the U.S. Federal Reserve and the European Central Bank. This target is based on several factors, including historical experience, economic theory, and practical considerations.

One reason for targeting 2% inflation is that it is seen as a level that is low enough to avoid the negative effects of deflation, but high enough to allow for some price increases that can stimulate economic growth. Deflation, which is a sustained decrease in the general price level of goods and services, can be harmful to an economy as it can lead to decreased spending and investment. In contrast, a moderate level of inflation can encourage spending and investment as consumers and businesses anticipate higher prices in the future.

Additionally, a 2% inflation target is seen as consistent with the long-term trend of productivity growth and technological progress. Over time, advancements in technology and productivity should lead to lower costs of production, which would result in lower prices for goods and services. Thus, a 2% inflation target is seen as allowing for some price increases while still maintaining a stable and predictable economic environment.

It’s worth noting that the choice of a 2% inflation target is not a universally accepted or fixed standard, and different countries and central banks may have different targets based on their specific economic circumstances and goals.

Benefits of Roth Conversions

By LeGrand S. Redfield, Jr. CLU, ChFC, CFP

Roth conversions can be a valuable tool for retirement planning, offering a number of benefits to those who take advantage of them. Here are some of the most important benefits of Roth conversions:

• Tax-free withdrawals: With a Roth conversion, the money you convert is taxed in the year of conversion, but all future withdrawals from the account are tax-free. This means that you won’t have to pay taxes on the money you withdraw in retirement, when you’re likely in a higher tax bracket.
• No Required Minimum Distributions: Unlike traditional retirement accounts, Roth IRAs don’t have Required Minimum Distributions (RMDs), so you can leave the money in your account as long as you’d like, and you’ll never be forced to take money out.
• Increased flexibility: With a Roth conversion, you have more control over your retirement funds, since you can withdraw your contributions at any time without taxes or penalties. This can be particularly useful in case of unexpected expenses or changes in your financial situation.
• Potential for market growth: If you convert money to a Roth IRA while the stock market is down, you’ll pay taxes on a lower amount and your money will have more potential to grow tax-free in the future.
• Estate planning benefits: Roth IRAs can also be a useful tool for estate planning. Since they don’t have RMDs, you can leave the money in your account for your beneficiaries, who will be able to take tax-free withdrawals.

It’s important to note that while Roth conversions can be a great choice for some, they may not be the best option for everyone. Factors such as your current tax bracket, retirement goals, and overall financial situation will all play a role in determining whether a Roth conversion is right for you. If you’re considering a Roth conversion, it’s a good idea to talk to a financial advisor to determine if it’s the right move for you.

In conclusion, Roth conversions offer a number of benefits for retirement planning, including tax-free withdrawals, increased flexibility, and the potential for market growth. If you’re considering a Roth conversion, it’s important to talk to a financial advisor to determine if it’s the right choice for you.

Fed Keeps Pushing Rates Higher

Few investors should have been surprised when the Federal Reserve raised interest rates after its May meeting. Throughout April, Fed Chair Jerome Powell and several Fed Governors talked about the need to keep raising short-term rates to help manage hot inflation. They suggested that a series of rate hikes throughout the summer may be necessary to cool prices. What should have surprised investors was the reaction by the financial markets. As the May meeting came to a close, markets cheered as traders expressed confidence the Fed would be able to guide the economy to a “soft landing” and avoid a recession. But in the days that followed, stock and bond market volatility picked up as the reality of higher interest rates started to settle in. What’s next? Fed Governors have prepared us for higher short-term rates in the coming months. But some economists point out that the bond market has already done some of the work for the Fed, meaning traders have already pushed longer-term interest rates higher. For example, the yield on the 10-year Treasury has doubled this year. We’re in a transition period with the economy. High inflation is forcing the Fed into a cycle of raising interest rates. It’s best to prepare for more volatility as the markets adjust to what’s ahead. Please reach out if you want some additional insight. We’ll be happy to share more information.

Inflation Creeping into Personal Finances

If you have a balance on a credit card or an adjustable rate mortgage, you might be noticing changes in your payments. Higher interest rates are starting to ripple through the personal finance landscape, and it doesn’t look like that trend will change anytime soon.

The Federal Reserve has indicated it plans to keep raising short-term interest rates to help manage inflation, which is at its highest level in 40 years. You’re likely seeing the effects of inflation when buying gas or groceries, and you’ll notice it if you are shopping for a new or used car.

The Federal Reserve’s job is to control inflation. By raising interest rates, the Fed hopes to slow spending, bringing down consumer prices.

Time will tell whether higher interest rates will prompt us to consider changes to your portfolio. Remember, your overall strategy considers that there will be transition periods in the economy.

In the meantime, you may want to look at I Bonds, which are issued by the U.S. government and earn a fixed interest rate plus a variable interest inflation rate that’s adjusted twice a year. I Bonds have certain purchase limits, restrictions, and tax treatments, so they generally play a limited role in your financial picture.

If you have any questions about inflation or interest rates, please reach out. We’re always here to help put things into perspective.

We Believe

“We believe that any advisor can manage your investment portfolio—but not every advisor can help you navigate all the aspects of life that your investment portfolio influences.” 

“We believe that investing for upside has a tremendous downside—more volatility, missed expectations, a poor investment experience, and ultimately bad investor decisions.” 

“We believe that the only way to receive quality financial advice is by working with an advisor who truly knows you and your unique challenges.

Savings Rates Decline

by Bob Veres

You don’t hear much about America’s personal savings rate these days, and the reason may be because the news is discouraging: collectively, the percentage of our income that we save is trending downward again, and may be about to hit record lows.  The Federal Reserve Bank of St. Louis tracks the U.S. personal savings rate, going back to the late 1950s, when when people were setting aside a thrifty 11% of what they made.  Americans achieved a record 17% savings rate in the mid-1970s (see chart) before a long decline set in.  In 2013, the rate briefly spiked again above 10%, but as you can see from the chart, Americans have become less thrifty since then.  The most recent data point shows Americans saving just 3.6% of their income.

How does this compare to the rest of the world?  A chart on the Trading Economics website shows that most countries fall in the 4.5% to 10% range, but with considerable fluctuation.  For instance, Spain experienced a negative savings rate just last quarter, but this quarter reports a rate of more than 14%.  Japan and Mexico seem to be consistently the thriftiest of the reporting nations, each with savings rates above 20%.  (India’s rate on the chart appears to be in error.)

Does any of this matter?  Economists will tell you that when the savings rate is high, it cuts into consumption, which lowers economic activity.  But at the same time, countries with high savings rates have more capital to invest in their future, and their citizens tend to be less vulnerable to economic downturns.  On the whole, we should probably prefer more savings to less.

Sources:

https://tradingeconomics.com/united-states/personal-savings

https://fred.stlouisfed.org/series/PSAVERT

 

Common Estate Planning Mistakes

by Bob Veres

The most common way to transfer assets to your heirs is also the messiest: to have a will that is so out of date that it doesn’t relate to your property or estate, to have your records scattered all over the place, to have social media, banking and email accounts whose passwords only you can find—and basically to leave a big mess for others to clean up.

Is there a better way?

Recently, a group of estate planning experts were asked for their advice on a better process to handle the transfer of assets at your death, and to articulate common mistakes.  The list of mistakes included the following:

Not regularly reviewing documents.  What might have been a solid plan 15 or 20 years ago may not relate to your estate today.  The experts recommended a full review every three to five years, to ensure that trustees, executors, guardians, beneficiaries and healthcare agents are all up-to-date.  You might also consider creating a master document which lists all your social media and online accounts and passwords, so that your heirs can access them and close them down.

Using a will instead of a revocable trust.  This relates mostly to people who want to protect their privacy.  When assets pass to heirs via a will, the transfer creates a record that anybody can access and read.  A revocable trust can be titled in your name, and you can control the assets as you would with outright ownership, but the assets simply pass to your designated successor upon death.

Failing to fund the revocable trust.  You’ve set up the trust, but now you and your team of professionals have to transfer title to your properties out of your name and into the trust, with you as the trustee.  If you forget to do this, then the entire purpose of the trust is wasted.

Having assets titled in a way that conflicts with the will or trust.  You should always pay close attention to the beneficiary designations, because they—not your will—determine who will receive your IRA assets.  Meanwhile, assets (like a home) owned in joint tenancy with rights of survivorship will pass directly to the surviving joint tenant, no matter what the will or trust happens to say.

Not using the annual gift exemption.  People can gift $14,000 a year tax-free to heirs without affecting the value of their $5.49 million lifetime gift exemption.  That means a husband and wife with four children could theoretically gift the kids $112,000 a year tax-free.  That can reduce the size of a large estate potentially below the gift exemption threshold, and in states where there is an estate tax, it can help there as well.

Not understanding the generation-skipping transfer tax.  A husband and wife can each leave estate values of $5.49 million to any combination of individuals.  But if there’s anything left over, there’s a 40% federal estate tax on those additional assets left to heirs in the next generation (the children), and an additional 40% on assets left to the generation after that (the grandchildren).  Better to transfer $5.49 million out of the estate before death (tax-free, since this fills up the lifetime gift exemption) into a dynastic trust for the benefit of the grandchildren.  You can also transfer that annual $14,000 to grandchildren.

Not taking action because of the possibility of estate tax repeal.  Yes, the Republican leadership in Congress includes, on its wish list, the total repeal of those estate taxes.  But what if there’s no action, or a compromise scuttles the estate tax provisions at the last minute?  Federal wealth transfer taxes have been enacted and repealed three times in U.S. history, so there’s no reason to imagine that even if there is a repeal, the repeal will last forever.  Meanwhile, dynastic trusts and other estate planning tactics provide tangible benefits even without the tax savings, including protecting assets from lawsuits and claims.

Leaving too much, too soon, to younger heirs.  Nothing can harm emerging adult values quite like realizing, as they start their productive careers, that they actually never need to work a day in their lives.  The alternative?  Create a trust controlled by a trusted family member or a corporate trust company until the beneficiaries reach a more mature stage of their lives, perhaps 30-35 years old.

The Economic Myth-Destroyer gets his due

by Bob Veres

Imagine a person who always, in every circumstance, makes rational decisions with his money.  He saves when he ought to and spends exactly as he should spend, in order to maximize the “utility” of whatever wealth he happens to possess.  He defers gratification with ease.  When he invests, he has instant and total access to all possible information related to every item in his, including the details of every company’s financials and any impactful world events, even if they haven’t reached the news media yet.  If he found a $100 bill on the sidewalk, he would immediately go out and invest it in a steel mill.

Most of us have never met a person like that, but this is how most economists, when they build their models, assume that normal humans behave.  All of us—and especially professional financial planners—know that these assumptions are far from what we see in the real world, which makes us question whatever economists tell us about group behavior like the financial and economic markets, laws and regulation, or what consumers will do next.

All of this is why a silent cheer went up around the professional investing world when University of Chicago economist Richard Thaler was awarded the 2017 Nobel Prize in Economics by the Royal Swedish Academy of Sciences.  Thaler spent his entire career exploring the differences between these unrealistically idealized economic assumptions and actual human behavior.  He demonstrated that people take mental short-cuts—called “heuristics”—when they make what they believe to be logical decisions.  He showed that in the real world, their decisions are often impulsive, and self-control is more of an aspiration than a reality.

Thaler also developed a theory of “mental accounting,” which explained how people make financial decisions by creating separate accounts in their minds—one for college funding, say, and another for retirement, and still another for vacations or a new car.  He explored those mental short-cuts and found that people tend to expect more in the future of what they’ve recently experienced (recentcy bias) and uncomfortably often they believe themselves to have more knowledge about their decisions than they actually do.

An experiment with a lost ticket uncovered the “sunk cost” effect.  Thaler found that if people purchased a $100 opera ticket and lost it on the way to the show, they would be unlikely to buy another ticket, reasoning that $200 was too much to pay.  But if we were perfectly logical, the only choice upon approaching the ticket counter should be whether it was actually worth $100 to hear the opera, and we had already made that decision when we bought the first ticket.

This is actually the second time that the Nobel Prize in Economics has been awarded to behavioral theorists who strayed from the economic party line. Daniel Kahneman won the prize in 2002 for his work with fellow psychologist Amos Tversky on human behavioral biases and systematic irrational behaviors.

In the models that economists produced out of their assumptions of perfectly rational, all-knowing investors and consumers, we could never have market bubbles or market crashes, since every market price is right and fair at every moment.  In that strange world, nobody would ever pay more than anybody else for a product or service.  Thaler’s prize—and Kahneman’s before him—suggest that the world of economics is starting to catch on to the messy decision-making that actually goes on in the real world.

Tax Reform—or Not?

by Bob Veres

You can be forgiven if you’re skeptical that Congress will be able to completely overhaul our tax system after failing to overhaul our health care system, but professional advisors are studying the newly-released nine-page proposal closely nonetheless.  We only have the bare outlines of what the initial plan might look like before it goes through the Congressional sausage grinder:

We would see the current seven tax brackets for individuals reduced to three — a 12%, rate for lower-income people (up from 10% currently), 25% in the middle and a top bracket of 35%.  The proposal doesn’t include the income cutoffs for the three brackets, but if they end up as suggested in President Trump’s tax plan from the campaign, the 25% rate would start at $75,000 (for married couples), and joint filers would start paying 35% at $225,000 of income.

The dreaded alternative minimum tax, which was created to ensure that upper-income Americans would not be able to finesse away their tax obligations altogether, would be eliminated under the proposal.  But there is a mysterious notation that Congress might impose an additional rate for the highest-income taxpayers, to ensure that wealthier Americans don’t contribute a lower share than they pay today.

The initial proposal would nearly double the standard deduction to $12,000 for individuals and $24,000 for married couples, and increase the child tax credit, now set at $1,000 per child under age 17.  (No actual figure was given.)

At the same time, the new tax plan promises to eliminate many itemized deductions, without telling us which ones other than a promise to keep deductions for home mortgage interest and charitable contributions.  The plan mentions tax benefits that would encourage work, higher education and retirement savings, but gives no details of what might change in these areas.

The most interesting part of the proposal is a full repeal of the estate tax and generation-skipping estate tax, which affects only a small percentage of the population but results in an enormous amount of planning and calculations for those who ARE affected.

The plan would also limit the maximum tax rate for pass-through business entities like partnerships and LLCs to 25%, which might allow high-income business owners to take their gains through the entity rather than as income and avoid the highest personal brackets.

Finally, the tax plan would lower America’s maximum corporate (C-Corp) tax rate from the current 35% to 20%.  To encourage companies to repatriate profits held overseas, the proposal would introduce a 100% exemption for dividends from foreign subsidiaries in which the U.S. parent owns at least a 10% stake, and imposes a one-time “low” (not specified) tax rate on wealth already accumulated overseas.

What are the implications of this bare-bones proposal?  The most obvious, and most remarked-upon, is the drop that many high-income taxpayers would experience, from the current 39.6% top tax rate to 35%.  That, plus the elimination of the estate tax, plus the lowering of the corporate tax (leading to higher dividends) has been described as a huge relief for upper-income American investors, which could fuel the notion that the entire exercise is a big giveaway to large donors.  But the mysterious “surcharge” on wealthier taxpayers might take away what the rest of the plan giveth.

But many Americans with S corporations, LLCs or partnership entities would potentially receive a much greater windfall, if they could choose to pay taxes on their corporate earnings at 25% rather than nearly 40%.  (Note: The Trump organization is a pass-through entity.)

A huge unknown is which deductions would be eliminated in return for the higher standard deduction.  Would the plan eliminate the deduction for state and local taxes, which is especially valuable to people in high-tax states such as New York, New Jersey and California, and in general to higher-income taxpayers who pay state taxes at the highest rate?

Currently, about one-third of the 145 million households filing a tax return — or roughly 48 million filers — claim this deduction.  Among households with income of $100,000 or more, the average deduction for state and local taxes is around $12,300.  Some economists have speculated that people earning between $100,000 and around $300,000 might wind up paying more in taxes under the proposal than they do now.  Taxpayers with incomes above $730,000 would hypothetically see their after-tax income increase an average of 8.5 percent.

Big picture, economists are in the early stages of debating how much the plan might add to America’s soaring $20 trillion national debt.  One back-of-the-envelope estimate by a Washington budget watchdog estimated that the tax cuts might add $5.8 trillion to the debt load over the next 10 years.  According to the Committee for a Responsible Federal Budget analysis, Republican economists has identified about $3.6 trillion in offsetting revenues (mostly an assumption of increased economic growth), so by the most conservative calculation the tax plan would cost the federal deficit somewhere in the $2.2 trillion range over the next decade.

Others, notably the Brookings Tax Policy Center (see graph) see the new proposals actually raising tax revenues for individuals (blue bars), while mostly reducing the flow to Uncle Sam from corporations.

These cost estimates have huge political implications for whether a tax bill will ever be passed.  Under a prior agreement, the Senate can pass tax cuts with a simple majority of 51 votes — avoiding a filibuster that might sink the effort — only if the bill adds no more than $1.5 trillion to the national debt during the next decade.

That means compromise.  To get the impact on the national debt below $1.5 trillion, Congressional Republicans might decide on a smaller cut to the corporate rate, to something closer to 25-28%, while giving typical families a smaller 1-percentage point tax cut.  Under that scenario, multi-national corporations might be able to bring back $1 trillion or more in profit at unusually low tax rates, and most families might see a modest tax cut that will put a few hundred extra bucks in their pockets.

Alternatively, Congress could pass tax cuts of more than $1.5 trillion if the Republicans could flip enough Democratic Senators to get to 60 votes.  The Democrats would almost certainly demand large tax cuts for lower and middle earners, potentially lower taxes on corporations and higher taxes on the wealthy.  Would you bet on that sort of compromise?