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:
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.
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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