Financial advisors tips for year-end planning
September is here and it's time to get excited about football, getting back into the school-year routine with your kids and, of course, year-end financial planning.
For anyone who believes financial plans can wait until December, think again.
Financial advisors stress that it's time to get serious about financial strategy, like taxes, evaluating open enrollment options at work and reassessing your overall financial plan.
"Getting started in September is perfect," said Sheryl Garrett, founder of Garrett Planning Network. "Some of the more sophisticated or involved things to do require advanced planning to make sure all the pieces come together."
It's best to start early because one move can affect others, explained Lewis Altfest, chief investment officer of Altfest Personal Wealth Management.
"We're requesting clients' tax information now," said Altfest, speaking in late August.
While many conversations will focus on year-end tax issues, there can be a raft of specific, complex topics to be addressed. For example, anyone who is turning 70½ must devise the best strategy for taking a required minimum distribution from traditional IRA and 401(k) plans.
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Those planning to make charitable donations need time to select specific recipients and perhaps to decide whether to give cash or appreciated assets like stocks.
Additionally, some investors may be looking to convert traditional IRAs or a 401(k) into a Roth IRA plan. Still others may want to reverse a previous conversion through a recharacterization.
A recharacterization allows an investor to "undo" or "reverse" a rollover or conversion to a Roth IRA. An investor can generally recharacterize a rollover or conversion by Oct. 15 of the following year.
Advisors say this time of the year is when they speak with clients about making choices in their employer's open enrollment plans for health benefits and insurance. They also urge clients to find ways to maximize contributions in workplace retirement plans.
Also topping many advisors' fourth-quarter "to do" lists is urging clients to exhaust the funds in flexible spending accounts or other tax-advantage workplace health benefit plans.
"You have to use it or lose it by the end of the year," said Thomas Henske, partner in Lenox Advisors. "If you put in $2,000, you don't want to have $1,000 sitting there at the end of the year."
Using remaining funds in a flex spending account can be as quick and simple as getting new glasses or contact lenses or going for a medical checkup or a teeth cleaning. But if it's something complicated, like getting that bad knee repaired or having work done on your teeth, time is of the essence to get those medical issues handled before the end of the calendar year.
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"At the end of the year, no one is going for [elective] surgery," Henske said. "People are going on vacation and they're doing their family thing, starting with Thanksgiving."
Advisors obviously use this time of the year to concentrate on year-end tax planning with their clients and the conversion will focus on changes in tax laws. It can get complicated which is why advisors stress to their clients to address tax planning as early as possible.
For example, while the fiscal cliff was averted in January, there are still some complex issues to work through come tax time.
For instance, the tax rates on long-term capital gains and dividends are still 15 percent for most taxpayers. However, the fiscal cliff compromise established a higher, 20 percent cap gains and dividend rate for couples earning more than $450,000 and singles earning more than $400,000 a year. It also raised the income tax rate for those high earners to 39.6 percent from 35 percent. And it established a 3.8 percent Medicare surtax for wealthier taxpayers.
"When the tax is higher, the benefit of that [year-end tax strategy] is greater," Altfest said.
With capital gains, for instance, a common year-end strategy is to postpone until New Year's the sale of profitable investments, to delay the tax bill by a year. Investors can also sell losing investments to book losses that will offset gains on other holdings they've sold. And up to $3,000 in losses can be used to reduce income tax.
But using these strategies can be tricky and stressful, advisors say. While any losing investment can be a sale candidate—the investor always runs the risk that the investment could rally and become profitable in the future.
"There is a lot more planning needed this year in terms of, 'Is this a good time to take gains and losses?'" Altfest said. "You don't want to adversely impact your portfolio as a result of making tax changes."
Another factor that could affect year-end investment strategy moves is the big run-up in many U.S. stocks versus losses on bonds and some commodities.
"It has become very difficult to find losses in portfolios, and the opportunities to defer income is much more limited these days as a result," Altfest said.
Because of the disparity in stocks and bonds performance this year, there's a good chance an investor's asset allocation needs adjusting, and fixing that should be part of the year-end strategy, advisors say.
But first advisors stress that investors may want to reassess their financial targets, perhaps reducing bond holdings because of the higher risks bonds present today if interest rates rise.
Advisors also stress that tax-loss harvesting is one of the most important strategies to discuss with clients in the fourth quarter. It's a technique used to lower taxes while maintaining the expected risk and return profile in a portfolio.
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Tax gain/loss harvesting does not just affect federal income taxes, it also has implications on state taxes, said Mark Cortazzo, senior partner in Macro Consulting Group.
Rules vary from state to state, with some, for instance, allowing investment losses to offset ordinary income, while others do not. Therefore, Cortazzo says it's critical to get an early start on these key issues.
Cortazzo said he also urges clients to update wills and estate plans to reflect new tax rules adopted early in the year.
Henske says he'll use this time of the year to discuss long-term-care insurance with clients. Garrett, who also feels the fourth quarter is a good time to review insurance needs, will take this opportunity to push clients to talk about budgeting, a topic that is too easily left untended.
"I think of it as weeding your garden," she says.
—By Jeff Brown, Special to CNBC.com.