Welcome to the second part of the tax-smart investing mini-series. I feel like I'm cheating you by calling this a mini-series since it's just two parts. However, I'm a child of the '80s and mini-series is just so much cooler to say! A couple of key points from last week… It’s not what you make, it's what you keep. Meaning, what you make is only counted after the taxes you pay. Don’t tip Uncle Sam! Don’t break the law but make sure you are getting as close to the line as possible so Sam gets his and you keep yours! In the last episode, we covered 7 specific strategies to be a tax-smart investor, so check that out if you missed it.
Today we’re going to talk about 5 specific tax-smart planning ideas for 2021. These ideas come directly from SEI and their tax planning team. So without further ado let jump into them. As a reminder, be sure to consult your tax advisor before implementing any of these ideas.
You will want to hear this episode if you are interested in...
The Roth Conversion
The Roth conversion is a common financial planning technique in my world. The problem this idea is attempting to solve is tax rates going up in the future. Please note, I said they are, not they may, this is based on current income tax rules. When the tax act went into place a few years ago, the tax brackets for corporations were made permanent. However, the brackets for individuals were only temporarily reduced. Those rates will start going up in a few years.
A Roth conversion is simply converting a traditional IRA to a Roth IRA. This conversion or action does create a taxable event right now. However, it may be worth doing that for a few reasons. First, by converting now you may be taking advantage of lower tax rates. It also sets the groundwork for you to take distributions that are not subject to potentially higher rates in the future. Also, if you're already doing charitable contributions, you may want to coordinate some accelerated charitable contributions to minimize the tax bill on this conversion.
Would accelerating income help you save on taxes?
Idea number four is accelerating income into this year. This fourth idea is as simple as the description I just mentioned. Moving future income into the current here to take advantage of lower tax rates currently on the books. Some things to consider are exercising stock options this year, selling off some appreciated stock—consider NUA from our last mini-series—and/or pushing back business expenses to future years. Talk with your advisor to see if this option would be beneficial for you.
This week’s FLASHBACK: Beep, Beep, who’s got the keys to the Jeep?
I was reminded of today's flashback as I recently had to buy a new car, well... new to me. I don't buy new cars, at least not for myself. As a kid, I dreamt of owning a Jeep. I even tried to figure out how much I would need to save a month to buy a Jeep when I was 18. I started the calculations when I had my paper route around 12 years old. The idea of riding in a Jeep Wrangler, no top, no doors, oversized tires, all that fun stuff. Unfortunately, as a teenager, I was not a real diligent saver of money. Fortunately, I struck gold one summer during undergrad while working at the wicker company (I'll give the wicker company a proper introduction in another flashback segment). I finally had enough money in my pocket to buy a Jeep. Tuition was taken care of as well as my apartment expenses and I had cash burning a hole in my pocket.
I headed to a used car dealership, not far from campus. I mean I was ready to buy! I found one I liked at a price I could afford and the salesperson set me up for a quick test drive. He even took the top off so I could get that full Jeep experience. I started the test drive by pulling out of the car lot onto a small side street. I made a turn and let the wheel just return to a straight position. It was then I realized this was not the vehicle for me. The Jeep jumped all over the road. I'm not sure if it was unusual or if it was the light rain but it made me nervous. So although I finally could afford my dream Jeep, I decided not to go that route. I felt the car was just too unsafe so I bought a sportbike instead. Yes. In the mind of a 21-year-old male, a sportbike was a safer mode of transportation than a Jeep and that too is a flashback for another episode.
Resources & People Mentioned
I’m Dan Johnson, CFP®, founder of Forward Thinking Wealth Management. I run a flat-fee financial planning and investment management firm located in beautiful Akron, OH. Although I am in Akron, OH, I work with clients regardless of location. I cater to owners of equity compensation positions who are looking to organize their financial lives, keep more of what they make, and do the things they want in retirement and even now.