Tax planning is an essential component of comprehensive financial planning. As a financial advisor, having a solid understanding of tax rules and regulations allows you to optimize your clients’ financial outcomes.
While you likely won’t serve as a tax specialist, incorporating basic tax planning into your advisory services demonstrates value and strengthens your position as a trusted advisor.
This guide explores key tax planning strategies for financial advisors. Follow these tips to enhance your financial wisdom, uncover planning opportunities, and provide clients with 360-degree support to achieve their financial goals.
What Does Tax Planning Involve for Financial Advisors?
Tax planning encompasses proactive strategies to minimize income taxes, maximize deductions, take advantage of credits, and optimize your client’s financial situation. As their financial advisor, you need to look at their entire financial picture and how different strategies will affect their tax bill.
Here are some examples of strategies financial advisors commonly use in tax planning:
- Analyzing a client’s income sources to determine the tax liability and make appropriate adjustments to minimize taxes owed. This may involve shifting funds between tax-deferred and taxable accounts.
- Reviewing portfolios periodically to harvest tax losses to offset capital gains.
- Advising on charitable giving amounts and timing to take advantage of deductions.
- Contributing the maximum to tax-advantaged retirement accounts like 401(k)s and IRAs.
- Considering the tax implications of investing in a traditional vs Roth IRA based on current vs future tax brackets.
- Making use of tax deductions for mortgage interest, medical expenses, and other qualified expenses.
- Developing a plan for required minimum distributions (RMDs) from retirement accounts to avoid penalties.
- Factoring estate taxes into legacy and wealth transfer planning.
As you can see, tax planning touches many aspects of your client’s financial life. It takes a holistic view to implement strategies to legally minimize their tax burden.
Why Incorporate Tax Planning Into Your Practice?
There are several compelling reasons for financial advisors to offer proactive tax planning services. Effective tax planning puts more money back into clients’ pockets by maximizing deductions and making smart tax moves that can add up to significant savings each year.
In addition, strategic tax-loss harvesting improves overall investment returns by offsetting capital gains.
Tax implications must also be considered when planning for retirement account withdrawals in order to preserve more of a client’s nest egg. Providing specialized tax planning shows that an advisor is looking at the full scope of a client’s financial life and long-term goals with a more comprehensive approach, which clients value.
Since many financial advisors do not offer tax planning services, doing so can differentiate an advisor’s practice. Ultimately, helping clients lower their tax bill fosters greater client appreciation, trust, and loyalty while also optimizing portfolio performance and retirement preparations.
Tax Planning Strategies for Financial Advisors
Now let’s explore some specific tax planning strategies financial advisors utilize to optimize their clients’ situations:
Use Tax-Advantaged Retirement Accounts
Contributing the maximum to tax-deferred 401(k)s, IRAs, and other retirement plans should be part of every financial plan.
- Advise clients to maximize their contribution limits each year. The current 401(k) contribution limit is $22,500 with an additional $7,500 catch-up for those 50+.
- Consider a backdoor Roth IRA conversion for clients over income limits. This converts traditional IRAs to Roth IRAs to access tax-free growth.
- Review plans as your client’s situation changes. For example, widowed spouses may consider contributing to an inherited IRA.
Leverage Capital Losses
Selling securities at a loss allows you to offset capital gains and lower your tax bill. Schedule tax-loss harvesting trades toward the end of the tax year to maximize this strategy.
- Review holdings for any securities currently trading below cost basis. These are candidates for tax-loss harvesting trades.
- Avoid violating the wash-sale rule, which disallows claiming a loss if buying a substantially identical security within 30 days.
- Use capital losses to offset both short-term and long-term capital gains. $3,000 in excess losses can offset ordinary income.
Make Charitable Contributions Strategically
Advise clients on how to time and structure charitable giving to make full use of deductions.
- Bunch multiple years of donations together into one tax year to take a larger itemized deduction.
- Donate appreciated securities held over one year for fair market value deduction while avoiding capital gains.
- For clients aged 70.5+, advise making IRA charitable rollovers up to $100k to lower RMDs.
Prepare for Required Minimum Distributions
Clients must start taking RMDs from retirement accounts at age 72 per the SECURE Act. Missing RMD deadlines results in stiff 50% penalties.
- Calculate your clients’ RMD amount each year using their age, account balances, and distribution period.
- Withdraw RMDs by year-end. Consider taking an extra distribution in December to meet the requirement if needed.
- For inherited IRAs, make sure beneficiaries take RMDs correctly to avoid penalties.
Weigh Roth IRA Conversions
Converting from a traditional to a Roth IRA makes sense if your client expects to be in a higher tax bracket in retirement.
- Analyze current and projected future tax rates, account balances, and 5-year time horizons.
- Stagger Roth conversions over several tax years to avoid moving into a higher bracket.
- Pay conversion taxes from non-retirement accounts to maximize compounding growth.
- Review conversion opportunities whenever tax rates change or your client’s situation shifts.
Services a Tax Planning Financial Advisor Provides
If you want to incorporate tax planning into your financial advisory practice, here are some specific services you may offer to clients:
- Tax-efficient investment strategies – Develop portfolios and recommend investment products designed to minimize tax liabilities.
- Tax-loss harvesting – Systematically harvest losses in your client’s taxable investment accounts.
- Roth IRA conversions – Analyze accounts to advise clients on optimal traditional to Roth IRA conversions.
- Required minimum distribution planning – Ensure clients take RMDs on time and satisfy IRS requirements.
- Charitable contribution strategies – Advise on techniques like charitable rollovers and donating appreciated securities.
- Tax-deferred retirement planning – Guide clients on maximizing 401(k), IRA, and other retirement account contributions.
- Small business tax planning – Help clients who own businesses form entities and use deductions/credits to lower taxes.
- Estate and legacy planning – Use allowable estate tax exemptions, trusts, and asset transfers to reduce taxes.
- Tax prep and filing – Prepare and file your clients’ annual tax returns, maximizing deductions and minimizing liability.
Not all financial advisors offer their clients this degree of comprehensive tax planning and preparation. Developing knowledge in this highly specialized area can give your advisory firm a competitive edge.
Acquiring Tax Planning Knowledge
Tax planning requires specialized knowledge and skills. Here are some tips to acquire proficiency:
- Pursue advanced credentials – Consider earning a CPA or Enrolled Agent designation to provide tax prep services. A CFP can also give you broad tax planning skills.
- Use tax planning software – Leverage tools like WealthTrace to analyze complex scenarios and optimize decisions.
- Participate in continuing education – Take tax planning-focused courses annually to stay up to date on the latest strategies and changes.
- Develop a network of tax pros – Build relationships with accountants and tax attorneys to collaborate and provide full service.
- Follow IRS guidance – Monitor publications like the annual instructions for Schedule D to implement current rules.
- Know your limits – Identify where your tax knowledge ends and refer clients to qualified tax professionals like CPAs for complex needs.
Tax rules and regulations change often, so pursuing ongoing learning is crucial. Invest time to turn tax planning into an area of knowledge.
Partnering With Tax Professionals
Very few financial advisors can or should handle all their clients’ tax needs single-handedly.
Instead, build relationships with qualified tax professionals to provide specialized knowledge:
- CPAs – Work with CPAs to handle complex tax computations, filings, and planning needs beyond your scope.
- Tax attorneys – Collaborate with or refer to tax attorneys for guidance on estate tax planning, trusts, and related legal matters.
- Enrolled Agents – EA-credentialed professionals are authorized to represent clients in IRS audits and appeals.
- Online tax software – Use DIY tax prep software to efficiently file simple returns, and then focus your time on personalized planning.
- Tax resolution firms – If clients face tax deficiencies or audits, tax resolution firms can provide experienced representation.
As a financial advisor, you bring broad wealth management experience. Let tax pros handle the nitty-gritty details while you focus on big-picture planning.
My RIA Lawyer Can Help You Stay Compliant
Tax planning forms an integral part of financial advising. While advisors should not provide specific tax advice without specialized training, they serve as an invaluable resource to engage clients on tax-advantaged strategies as part of their financial plans.
The RIA compliance team at My RIA Lawyer helps financial advisors like yourself implement strategic and compliant tax planning.
Whether you need assistance with IRS registrations, mock audits, or responsive legal services – they have you covered. Their comprehensive compliance solutions empower you to avoid violations and run your practice smoothly. Contact My RIA Lawyer today to discuss how we can provide the legal insight you need.
