How to Use the Tax Return to Increase Your Wallet Share

Apr 17, 2018

Walter Share

Your clients and prospects just filed their 2017 tax returns. As you meet with them over the next few months consider reviewing their tax return. The return can be used to identify where the assets are invested if not with you.

1. Taxable versus Tax Exempt Interest (Schedule B) – Form 1040 Lines 8a & 8b.

If in 2017, a taxpayer was in the 28% or higher tax bracket, municipal bonds versus taxable bonds should be considered.  Because for 2018 the tax bar has been raised, the 28% tax bracket is gone. The new bar is the 32% federal tax bracket. As an example, if a taxpayer reported $100 of taxable interest (Line 8a) and $6,950 of municipal interest (Line 8b). Currently if a ten year municipal bond ladder is paying 2.09% and the taxpayers were in the 32% bracket, what is the tax equivalent yield an investment grade corporate ladder would need to generate?  3.07% would be the answer. So if the corporate ladder is paying 3.19%, the taxpayers may be better off with the corporate ladder. It may be appropriate to start blending in taxable bonds. Also consider state income taxes as well when appropriate. Investment environments are dynamic. Accordingly if an advisor is recommending municipals, it might be time to recommend a higher after tax solution given where tax rates are.

2. Capital Gains and Losses (Schedule D)

What does line 13 of Form 1040 read? Is it a positive number? Line 13 is where the clients Schedule D activity is reported. If you’re an advisor without complete wallet share, you should hone in on this line. Were there losses that could have been harvested before year end?

It’s possible your competition is asleep at the switch and did not harvest losses to offset gains. As an example, if a taxpayer reported $20,000 in long term gains. You review the taxpayer’s year-end statement from the other custodian and find $14,000 in losses in the account that could have been harvested. Now for a good open ended question with your new client/prospect: what year-end tax planning discussions took place with the other advisor?  Based on your analysis, probably no discussions will be the reply.

If the losses were harvested, the tax savings would be $14,000 * 15% = $2,100. Ideally, you would like to see -$3,000 on Line 13. You are allowed to take $3,000 in losses in excess of your gains against ordinary income. 2018 has already seen marked market volatility, which usually leads to money managers making trades. We could see some huge mutual fund capital gain distributions later this year. Keep an eye out on mutual fund distributions later this year.

Remember tax loss harvesting is a year round exercise. It’s important to have a system and a process in place to harvest losses or work with someone who can execute that strategy for you.

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3. Itemizing deductions (Schedule A) in 2018 and beyond will be more challenging.

The tax law cuts back or eliminates many itemized deductions, while almost doubling the standard deduction. Some of your clients might walk the line on whether to itemize or not. Charitable planning has become increasingly important. Here is a chance to provide some value added tax planning advice to increase your wallet share.

If a taxpayer is close to hurdling the standard deduction ($24,000 for married filing joint and $12,000 for single filers), one might consider a “lumping and clumping” strategy. Here is an example: A married couple is projected to have $23,000 in itemized deductions and normally gives $2,500 to charity each year; which would fall short of the itemized deduction threshold of $24,000. The couple could consider lumping four years of charitable deductions, $10,000 and then clump the contribution into a donor advised fund (DAF). The taxpayers would exceed the itemized deduction threshold and be able to take a tax deduction for the full amount donated to the DAF. Later on, the taxpayers can petition the DAF to make contributions to their favorite charities while allowing their contributions to grow.

4. Will there be a substantial change to income or tax deductions like medical expense in 2018?

Are your clients about to retire and expect their income to dwindle in 2018? If so, now might be a good time to consider a Roth conversion. Not only will your client’s taxable income be down but the federal tax rates are down as well, a powerful combination.

The two advantages of converting a traditional IRA to a Roth IRA is that the original Roth IRA owner is not subject to the Required Minimum Distribution (RMD) rules of a traditional IRA and the funds are not subject to income tax upon withdrawal if certain rules are followed.

Here are some parameters: First, let’s look at the federal tax brackets. Almost everyone’s tax bracket came down in 2018. Many married folks that were in the 33% tax bracket in 2017 will find themselves in the 22% bracket. If a married couple is contemplating a Roth conversion and their 2018 projected taxable income is $140,000, then they could consider converting up to $25,000. At that amount, it would keep this couple in their current projected tax bracket.

Income Tax Brackets

You want to be the one promoting potentially tax savings ideas as a way to differentiate yourself from your competition. When it comes to taxes, clients/prospects appreciate ways to save. Tax rates may have come down for most but taxes are still a pervasive important financial issue.

As part of your growth initiative for 2018 consider tax as one your strategies to gather new assets. To request a copy of the 2017 Federal Form 1040 Line Item Review please call 888-734-2679.

Investing involves risk, including possible loss of principal.

Neither SEI nor its affiliates provide tax advice. Please note that (i) any discussion of U.S. tax matters contained in this communication cannot be used by you for the purpose of avoiding tax penalties; (ii) this communication was written to support the promotion or marketing of the matters addressed herein; and (iii) you should seek advice based on your particular circumstances from an independent tax advisor.

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