Tax Planning is the ‘X’ Factor of Financial Planning Today
It’s common for championship sports teams to have an ‘X’ Factor player with unique abilities which provide a critical edge over the competition. The big game clutch hitting of Boston Red Sox’ Big Papi. New England Patriot’s special teams returner Troy Brown. The Boston Celtic Dennis Johnson, who slowed the Lakers down without ever turning the ball over. While smart tax planning is always an important aspect of sound financial planning, in several respects it is financial planning’s ‘X’ Factor today. Let’s consider the setup, the extra benefits, the mindset, and the means of effective tax planning while it is most needed.
The Setup: while Americans have in recent years enjoyed tax rates well under the long-term average,¹ the high probability of a meaningful tax hike is perceivable. Medicare and Social Security are unfunded programs, the benefits of which soon will no longer be covered by new receipts. Government deficits are already unprecedented, as is the existing national debt. The Trump-era tax cuts are scheduled to sunset December 31, 2025, and Kamala Harris has revealed a desire to aggressively increase taxes on wealthy (hard-working and successful) Americans, which always filters down to the middle class via the government’s inflation game.
The Extra Benefits: tax planning always reduces total taxes paid, which increases net income and improves the family budget, and if the savings isn’t squandered, also improves the balance sheet. Inflation acts as an extra tax, and savvy Americans are creatively finding new ways to reduce income, capital gains, and estate taxes to offset the inflation tax. A second extra benefit of tax planning today is a reduction in the risk of future tax abuse. Retirees with all their retirement capital in Traditional IRA/401(k)’s are asleep at the wheel; make sure this isn’t you.
The Mindset: an effective strategy is to maximize the taxes you pay in lower brackets and minimize the taxes you pay in high brackets, so always know what bracket you are in. Secondly, track the cost basis (already taxed and tax-free portion) of your total retirement capital and net worth. This will instill the proper tax mindset and keep you from pretending your ‘yet to be taxed’ assets are entirely yours.
The Means: Qualified Charitable Distributions (once 70½ years old), Strategic Roth Conversions (in lower than average income years), 1031 and 721 Exchanges, selling a primary residence when the tax free capital gain is achieved, living in a tax friendly state, Donor Advised Funds, Gift Trusts, Irrevocable Life Insurance Trusts, traditional retirement contributions (in higher than average income years), Back-Door Roth IRA’s, never missing a tax deduction (student loan interest deductions, medical expense deductions and property tax deductions) or tax credit (the earned-income tax credit, the child tax credit, the saver’s credit, and education credits)² are some of the means being used by prudent tax planners today.
Grade the overall tax knowledge of your fiduciary advisor, CPA, and Esquire, and require a high level of proficiency. Put a great tax planning team together and enjoy the benefits; it may be the single smartest financial move you make in an era such as this.
Think about it, Shaun.
“When there is no guidance a people falls, but in an abundance of counselors there is safety” ~Proverbs 11:14
1 Ed Slot, America’s IRA Experts, “A History of U.S. Tax Rates”, 1924-2024 2 Smart Asset, Smart Money Minute, “How Can Social Security Benefits Affect Your Taxes?, September 28, 2024
This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principal. Any opinions or forecasts contained herein reflect the subjective judgments and assumptions of the author.
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