It’s November, which means you’re running out of time to review your tax planning and consider any financial strategies that may play a big role in your tax planning for the year. It’s also the time to revisit your retirement accounts, benefits packages, insurance policies and spending plans to ensure that everything is updated and accurate.
If you’ve been to any big box retailers lately, then you’ve noticed the shelves are already stocked with holiday items. As a financial advisor, that’s always a reminder for me to think about some financially savvy year-end moves to make in the next two months. With the holiday season and its chaos upon us, here’s a checklist for some financial housekeeping that can be addressed now – before you’re up to your neck in gift wrap, holiday parties, travel plans and home decorating. And since the holidays invariably end up creating a certain amount of stress – like when you exceed your holiday budget – you may want to do yourself a favor and consider these smart year-end planning moves:
Rebalance your portfolio
One of the best year-end financial strategies is to review your portfolio for winners and losers. If you’ve already booked large capital gains during the year, it may be a good idea to sell depreciated stock to offset those gains with losses. To make the losses less painful, you can also take advantage of tax-loss harvesting by reinvesting that money into similar securities – just look out for the wash sale rules and avoid buying investments that are ‘substantially identical‘ either 30 days before or after selling your securities. And be aware – options are included in the wash sale rules.
Do you have 401(k) accounts from old jobs? What do you do with all those statements? It may be time to consolidate and rebalance all of those various retirement accounts to get a clear picture of the holdings in your overall portfolio. How can you feel confident about your retirement planning if you don’t even know what you own in your investment accounts? Simplify by consolidating.
Watch out for capital distributions
December is the month that many mutual funds pay out dividends and capital distributions. If you own shares of a mutual fund on what’s known as the ex-dividend date, then you are entitled to your share of the capital distributions that are paid out. Sounds good, right? Not so fast.
The downside is that the share price usually falls by the same amount when the distributions are paid, which means the net effect to you is zero. This is important because you pay taxes on the distributions, even though the fund is essentially just returning a portion of your purchase price. If you’re planning to buy a mutual fund in December, it may be a good idea to find out when they’re planning to pay out capital distributions so you can buy shares after that date.
You may want to consider selling some of those mutual funds and reinvesting the proceeds into Exchange Traded Funds, or ETFs. Like a mutual fund, an ETF is a basket of securities that typically mimic an index or benchmarks such as a particular industry, geographic region, or theme. Unlike mutual funds, ETFs are typically passively managed which brings down their expense ratio significantly when compared to actively managed mutual funds. And since approximately 80% of mutual funds fail to beat their long-term benchmarks, the cost savings can have a huge impact on your annualized returns over time.
Max out your 401(k) contribution
If you still haven’t contributed the maximum amount for the year to your 401(k) account – $18,000, or $24,000 if age 50 or older – increase your pre-tax contributions going into the end of the year to bring down your taxable income and put more money away for retirement. At the very least, try to take full advantage of your employer’s matching contributions. Otherwise, you’re leaving free money on the table. This is one of the financial strategies that gets overlooked often.
Small business owners have retirement plan options as well. From SEP IRAs to split-funded defined benefit plans, there are many options to help you reduce current year income and save more towards retirement. There may still be time to get something set up for 2016.
Donate appreciated stock
If you own stock that has appreciated in value over time, it may be a good idea to donate some of those shares to one of your favorite charitable organizations rather than writing a check. Donating appreciated stock directly to a charitable organization allows you to report it on your tax return at the market value on the date of the donation rather than the original cost basis. So shares worth $10,000 when donated directly means you report the deduction on your tax return as a $10,000 charitable contribution – even though you may have paid $500 for them ten years earlier. If you sell the shares yourself and donate the cash instead, you’ll pay taxes on the $9,500 capital gain.
Don’t forget about Required Minimum Distributions
This topic isn’t directly relevant to my Gen X and Millennial readers, but you may want to make sure that your parents and/or grandparents are aware of the rules concerning required minimum distributions. The important thing to know: once you’re over age 70 ½, the federal government requires you to take annual distributions from your IRA. So make sure to take your distribution before year-end. If you fail to do so in a given year, be prepared to write a check to the IRS for 50% of your calculated RMD as a penalty. That’s right – if your RMD was $5,000 and you don’t take it during the year, then you have to pay $2,500 to the federal government. This falls into the “worst financial strategies” category, so don’t let it happen to you.
Review open enrollment options
Your health insurance benefits may have changed, so you should pay close attention to the costs and benefits of the various options offered by your employer.
For small business owners, it’s a good time to consider any changes you want to make to your health insurance policy. There may be more cost-efficient options out there, including special tax credits for smaller group plans. But it’s important to look at the trends and how they may impact your firm as well as your bottom line.
Flexible Spending Accounts
If you have an FSA, you’re probably rushing to schedule appointments with doctors and dentists before year-end so you don’t lose out on those funds. There are FSAs that offer grace periods and money in accounts can carry over from year to year. Know your options.
Review your insurance policies
It’s important to review your various insurance policies – health, life, home, auto, long-term disability, long-term care – to ensure that your coverage is adequate. If you’ve experienced a major event during the year, make sure to consider how it impacts your insurance plan. And don’t forget to consider adding disability insurance to your portfolio if you haven’t already. This is especially important for business owners and families that rely heavily upon one income provider.
There are numerous financial strategies involving insurance, and it’s a good idea to sit down with a licensed, independent broker every once in a while to review the policies you own. They may be able to find you lower premiums, greater benefits, or both. Keep in mind: older insurance policies may still use the older mortality tables (which means you’re paying higher rates for lower benefits).
Another consideration for entrepreneurs, business owners, or partnerships to ensure continuity in the event that something happens to you or another owner/partner: buy-sell agreements funded with life and/or disability insurance policies. Having one of these policies in place allows the business to continue operating by providing the surviving owners/partners with the funds to purchase the shares of the deceased owner/partner. It could save you, your family, and your partners a significant amount of stress during a time of crisis and mourning.
Update your spending plan
Nobody likes to build a budget, but now is the perfect time to create a plan to track your money inflows and outflows. Work with a professional to create a realistic plan that’s designed for you and keeps you accountable throughout the year. There are a myriad of online budgeting tools to build a simple budget and track spending on your own. At Blue Keel, we offer a personal financial website to help clients track their spending, analyze trends and keep them accountable by working together with their advisor. You’ll be surprised to see where your money goes – and how much of it is going – when you start tracking your expenditures.
Review your beneficiary information
If you’ve experienced a major life event during the year – marriage, birth of a child, divorce – then it might be time to review the beneficiary information on your insurance policies, IRA, and/or 401(k). Failure to update a document after a divorce or forgetting to name a beneficiary may deny future generations to their rightful inheritance. This is one of the most important financial strategies to consider on an annual basis.
Important note: Beneficiary designations trump your will.
For business owners, it’s critical to review beneficiaries to ensure the continuity of your company in the event of your death. Even small disruptions in operations can have a catastrophic effect on your firm’s relationships with customers, suppliers, and partners – not to mention how it could impact income.
Establish or replenish your emergency fund
If you haven’t set aside 6-12 months of living expenses in a savings account, then now is the time to start. If you had to dip into your savings during the year, now you need to build it up again. The holidays can get expensive, but having cash available on short notice to pay for unexpected costs like a new hot water heater or roof is one of the financial strategies for which to be truly thankful.
For small business owners, it may be advisable to save an even larger emergency cushion to fund any business-related costs that arise unexpectedly. Even with the opportunity cost associated with funds sitting in an account that pays very little interest, it pays off when you need it most.
About the Author
Charlie Shipman left Wall Street and founded Blue Keel Financial Planning in 2014 to provide independent, fee-only investment management and comprehensive financial planning to professionals, small business owners, entrepreneurs and their families. His goal is to help clients align their finances with the lives they want for themselves and their families. Areas of expertise include: cash flow planning and budgeting, business planning, financial planning, portfolio management, estate planning and risk management. Charlie’s financial articles have been featured on MSN, Yahoo!, Nasdaq, Money, The Motley Fool, and NerdWallet. On the personal side, Charlie is an active board member for several community organizations in the town of Weston, CT, where he lives with his attorney-turned-entrepreneur wife, and their two absolutely amazing kids.