Certainty of taxes matched by certainty of tax policy for now

Legislative lull means it's easier to carry out multiyear planning, says advisor.

Tax policy is pretty much as certain as taxes themselves for the moment, which will make tax season a bit easier for financial advisors and their clients.

Often over the last several years, advisors have been watching Washington at the end of the year to see what kind of tax legislation — or tax provisions in larger bills — might pass and potentially affect the taxes coming due.

An almost evenly divided Congress — with Republicans and Democrats holding slim majorities in the House and Senate, respectively — has ensured that lawmakers haven’t advanced major tax legislation this year, easing some headaches for advisors.

“It gives you more certainty for [tax] planning purposes,” said Tim Steffen, director of advanced planning at Robert W. Baird & Co. “We don’t have anything new to concern ourselves with, which is not surprising, given the split in Congress. Because we’re pretty confident about what the laws will be next year, it’s easier to do some of that multiyear planning.”

The legislative lull is likely to continue — and keep tax policy quiet — in 2024, before several tax breaks included in a 2017 tax law expire at the end of 2025.

“Since there’s an election next year, no one thinks there will be substantive changes in the tax code the next couple years,” said Richard Pon, an investment advisor and CPA in San Francisco. “So you’re doing your typical year-end moves.”

One of the go-to tax strategies that advisors are recommending to their clients is to bunch charitable deductions to get over the high standard deduction threshold, which is currently $13,850 for single taxpayers and $27,700 for married couples filing jointly.

The most tax-efficient way for clients to make their charitable donations is with appreciated securities rather than with cash, said Kathryn Kubiak-Rizzone, founder of About Time Financial Planning. The taxpayer gets the full value of the tax deduction, and the charitable organization gets the full value of the contribution.

“Neither has to pay taxes on the growth,” Kubiak-Rizzone said.

It’s important to select the correct stocks to donate, Pon said. If stocks that are held for more than a year are transferred, the donor can claim a deduction for the fair market value at the time of the donation. If the stock has been held for less than a year, only the purchase price can be deducted.

Stocks that gain value are good candidates to donate to charity. If a stock has lost value, sell it and then donate the cash.

“You want to make sure you have appreciated stocks going to the charity to avoid the capital gains tax,” Pon said.

Steffen examines his clients’ tax returns to see whether charitable bunching works for them. They need to make sure they have enough cash on hand to compress donations that would normally be spread out.

“Where it gets complicated to implement is in cash flow,” Steffen said. “You’re making two years of charitable gifts in one year.”

Roth conversions are another strategy that Steffen recommends. Whether moving funds from a traditional individual retirement account, where contributions are tax-deferred, to a Roth account, where contributions are made after taxes are assessed, is good for a client depends on several factors.

Steffen and his clients assess how the tax is going to be paid when funds are put in a Roth, whether tax rates are at an attractively low level and how long the funds can sit in a Roth account.

“The best Roth conversions are done with money you’ll never need in retirement,” Steffen said. “You can look at that as funding an inheritance for your kids, if you want.”

Tax-loss harvesting is another popular strategy in a year in which capital markets as well interest rates have gone through periods of volatility.

“That gave us a lot of opportunities to harvest losses — not only on stocks, but on bonds, too ,” said Ramesh Poola, co-chief investment officer at Creative Planning. “We found more opportunities to harvest those losses and turn them into tax benefits.”

Markets can soar and then falter from month to month and sometimes week to week. Advisors should always keep their eyes open for a chance to harvest, Kubiak-Rizzone said.

“It’s best to consider it throughout the year, to take advantage of dips in the market when they occur,” she said.

Poola recommends alternatives — such as private credit instead of bonds — as well as direct indexing to make portfolios more tax-efficient. Direct indexing, for instance, provides opportunities to sell some stocks in the index at a loss to save on taxes, a move that’s not available to investors who hold exchange-traded funds.

“We’re utilizing alternatives more to get a better benefit for our clients, even in bonds,” Poola said. “We feel strongly that taxable assets need to be managed more efficiently by introducing strategies like direct indexing.”

Advisors can test different tax strategies over the next couple years and be fairly confident that they won’t be upended by tax policy changes coming out of Washington.