As the tax-filing season draws to a close Monday after a
year that was upended by the pandemic, financial pros suggest investors take
stock of their financial position and do a little spring cleaning.
While portfolio and
financial management is a year-round endeavor, with a variety of deadlines and
periodic reviews to conduct such as beneficiary designations, the next few
weeks offer an opportune time to prune redundant holdings, rebalance
out-of-whack allocations, readjust spending or savings, or simply reconsider
goals and priorities.
“Spring is an
excellent time not only to carefully review the past year, take profits and
rebalance portfolios, but also to … prepare portfolios for the coming
year,” says Emily Bowersock Hill,
founding partner at Bowersock Capital Partners in Lawrence, Kan.
Here are four things
to consider when spring cleaning:
Tax Planning
Reviewing your 2020
income taxes once tax season is over could spur investment changes to help
minimize next year’s tax bill. This year, it’s important to also begin
considering President Biden’s plans for tax increases.
Hill’s firm
typically conducts tax reviews with clients and their accountants in May or
June. This is the time of year to start positioning for major taxable events,
she says. For example, if you’ve lost a job and will have a particularly low
income this year, you may want to realize more capital gains or consider a Roth
IRA conversion.
On the other hand,
if you expect a windfall, say from the sale of a building or a business, there
are strategies you can use to reduce your taxes. Some of these may take three
to six months to execute, she says.
In parallel with
such a review, she recommends identifying specific tax and investment goals for
the year. Those may include a charitable spending plan that allows maximum use
of the charitable deductions and a plan for family gifts, especially to
education saving accounts that will maximize use of the annual gift tax
exclusion and any deductions for 529 plan contributions, she says.
The current White
House plan calls for an increase in the capital gains tax, the tax on qualified
dividends and the top marginal tax rate, among other provisions. So 2021 would
potentially be a good year for high earners to accelerate income, realize some
additional capital gains or to convert traditional IRA assets to a Roth IRA,
Hill says.
Streamline and
Simplify
“You’ve got a 401(k), you’ve got an individual
retirement account someplace and maybe another brokerage account with some
mutual funds,” says Kathy Carey, director of research with Baird Private Wealth
Management in Milwaukee. “You need to look at those in combination and
consider, ‘Am I investing in the right places or am I overinvested?’’’
A growth fund in
each account, for example, could leave you with substantial exposure to some
specific technology stocks, she cautions. “You might own way more than you
thought you did, and want to be more diversified,” she says.
On the other hand,
you may be overdiversified, with so many investments that you’re not reaching
your goals, she says. For a broad stock portfolio, holding more than 30 to 40
holdings may mean losing some diversification benefits, she says.
Candidates for
removal typically include funds that have undergone management or ownership
changes and those with expense ratios that are no longer competitive due to new
entrants in the category, says Hill.
Investors should
weigh an investments’ performance against an appropriate benchmark, says
Anthony Paul, managing director at the Hamilton Group at Concurrent in Denver.
Is a large-cap growth fund outperforming a large-cap growth index, for example?
Considering how your
fund performed on the upside and the downside will help you make a decision, he
says. For example, the S&P 500 lost 20% in the first quarter of 2020; if a
fund you’re measuring against the index lost 15%, it outperformed its index.
Funds that have
underperformed on a risk-adjusted basis for six quarters should at least
trigger a thorough review, Hill says. “Once a fund has underperformed for that
long, you really need to understand the reason; that will drive your decision
about what to do with it,” she says.
Consider
Consolidation
If you’ve changed
employers — as many have during the pandemic — and now have a few 401(k)
accounts, it may make sense to consolidate them, says Carey.
“Sometimes it makes
sense to keep an account because you may have access to certain investment”
that you wouldn’t otherwise have, she says. “But continue to assess if it makes
sense” because rolling your old 401(k) into your new one or into an IRA could
greatly simplify your financial life, she says.
Savers generally
have more investment options and more estate-planning strategies available with
an IRA, Paul says. In addition, some people prefer to leave a 401(k) plan once
they’ve left the company, he says. “From my experience, you don’t get the same
dissemination of information when you’re not sitting at your desk at the
company anymore,” he says.
However, most
employer-sponsored retirement plans, such as 401(k)s, are protected from
creditors, while IRAs don’t offer the same level of protection. In addition,
you may be able to take out a loan from your 401(k), a benefit you won’t have
with an IRA.
If you do consider a
rollover, weigh your options carefully and compare costs. Your 401(k) charges
fees, including management fees and costs for fund investments. If you choose
an adviser to manage your IRA investments, be sure to take their fee into
account. Some brokerage firms offer cash
incentives for rolling over to an IRA. “I have seen instances where individuals
are offered a ‘bonus’ ranging from $350 to $2,500,” Paul says.
Budgeting and
Savings
Whether you lost
your job or thrived during the pandemic, the things you spend on will change as
normalcy returns, Paul says. As such, he says it’s important to evaluate your
budget and goals and get your financial plan ready now.
If you’ve been using
Instacart to have groceries delivered, for example, you may want to reconsider
whether you still need it, he says. For those returning to work, there will be
costs for travel and new outfits, and “new expenses will be coming up – camp
for kids, summer vacation, increased pricing for flights and hotels,” he
says.
Replenishing
depleted emergency funds should be paramount, Carey adds.
A change to your
retirement-account contribution or distribution may also be in order. Some
people received bonuses early this year and many have spent less over the last
year, says Hill. After a review of their cash flow, a retiree may decide they
don’t need to take their regular monthly distribution for the next three months
or they may want to splurge, she says. Either way, “you don’t want to drift
without making a thoughtful decision,” she says.
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