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The Art of Putting Underperforming Assets to Work

Investing in a down market may make you nervous. It definitely doesn’t feel as fun or exciting as when the stock market is on high. But that’s not the point—far from it. Investing for the long term is hands down the smartest approach to retirement planning. And there are ways to maximize your investment portfolio even when your assets are “depressed”, or worth less than they were when you bought them. 

Tax Planning and Retirement Investing Strategies for a Down Market

Everyone’s personal circumstances will vary. But consider the following tax planning and investment strategies to maximize returns—and minimize taxes—in a down market: 

Consider Roth Conversions 

It may make sense to convert underperforming assets to a Roth IRA, as doing so has a number of potential tax advantages. For one, you won’t have to pay taxes on qualified distributions. And Roth IRAs aren’t subject to required minimum distributions (RMDs) like traditional IRAs and 401(k) accounts are.

Keep in mind, you do have to pay tax on the sums you convert. But if you plan carefully, the benefits can still outweigh the tax implications. 

Take Advantage of Tax-Loss Harvesting

Tax-loss harvesting is perhaps the silver lining of your investments losing value. Tax-loss harvesting involves selling certain investments at a loss to offset gains and potentially reduce your tax bill. 

Short-term capital gains apply to any stock you’ve held for a year or less, and they’ll be taxed at ordinary-income rates (versus the typically lower long-term capital gains rate). If your short-term capital losses exceed your short-term capital gains, you can use the excess losses to offset up to $3,000 of ordinary income per year. If there are additional excess capital losses, you can potentially carry those forward to offset your taxes in future years. 

Use the Power of Dollar Cost Averaging

If you’ve wondered “Should I lower my 401k contribution in a down market?” consider the power of dollar cost averaging. We’ve talked about dollar cost averaging as a smart bear-market investing strategy before. Investing a fixed amount of money on a regular basis (such as monthly), known as dollar cost averaging, can help smooth out market fluctuations and potentially improve your returns. 

The strategy is based on the knowledge that buying when prices are low gets you more shares with the same amount of money. And that someday in the future, they’ll be worth more again. This is the long-term investment approach we mentioned before.  

Make Smart Estate Planning Moves 

Market downturns resulting in depressed assets can present unique opportunities for estate planning. Certain types of trusts, such as a Grantor Retained Annuity Trust (GRAT) or an Intentionally Defective Grantor Trust (IDGT) can help you pass on your assets to your heirs tax-efficiently. 

Or, if you’re looking to transfer interests in family businesses and real estate, there’s the Family Limited Partnership (FLP) option. A FLP lets you transfer ownership of assets without having to surrender control of them. On top of that, you avoid transfer taxes thanks to the gift tax exclusion. 

Your financial planner can help you explore these strategies and other estate planning documents that might make sense in a lagging economy. 

Gift Strategically 

Beyond those estate planning moves, there are other gifting strategies that can help you make the most of a depressed investment portfolio. For example, the gift tax exclusion allows individuals to gift up to $17,000 per person per year (or $34,000 for couples) to others without incurring any gift tax. 

Another way to utilize gifting as an investment strategy is through a 529 savings account. This tax-advantaged savings plan is designed to help families save for education expenses. Contributions to a 529 plan are considered gifts for tax purposes, and the funds in the plan grow tax-free. 

A custodial IRA is a great way for parents or guardians to set up a retirement account for their child since contributions are considered gifts for tax purposes and grow tax-free. The account is managed by an adult custodian until the child reaches age 18. 

By strategically gifting assets during a down market, you can transfer assets at a lower starting price, potentially resulting in higher returns for the giftee down the line.

Consider Exercising Your Incentive Stock Options (ISOs)

ISOs are a stock option that companies can offer to their employees as a form of compensation and are usually taxed at a lower rate than other types of stock options. If you’re lucky enough to have been granted incentive stock options (ISOs), consider exercising them when the underlying asset is depressed to potentially take advantage of lower exercise prices. 

Diversify Your Portfolio

Diversification helps you manage risk by spreading your assets across many industries and asset classes. In fact, diversification is done with market downturns in mind. That way if a single sector or investment type suffers due to market conditions—like real estate during the 2008 market crash or tech stocks during the dot com bust—you don’t have to worry about your entire portfolio taking a massive, sudden hit.  

Consider investing in a mix of assets, such as stocks, bonds, and other securities, to create a well-rounded portfolio that can handle ups and downs.

Weigh the Tax Implications 

Having a tax-management strategy in place to help reduce your tax burden is a great approach to retirement planning in general—and it can make even more sense when market conditions are less-than-optimal.

Before selling off assets in hopes of “cutting your losses” make sure you understand the potential tax consequences. A financial planning professional (such as a CERTIFIED FINANCIAL PLANNER) can help you assess the tax implications of a potential sale so you can make informed decisions about your hard-earned investments.

Patience is the Key to Investing in a Down Market

As with any potential changes to your portfolio, whether or not these strategies will benefit you depends on your specific circumstances. Make sure you evaluate the risks and rewards before exercising these investing and tax tips. 

We understand that market dips, inflation, and economic uncertainty can be unnerving when you’re saving for retirement. But be patient and stay focused on your long-term goals. Seek advice from a financial planning expert (ideally one who is a fiduciary) who can provide personalized guidance on how to invest in depressed assets based on your individual circumstances and retirement goals.

If your financial advisor has an investment process in place—and they should—then they’ve planned ahead and made provisions for situations just like this. Which means you have nothing to worry about. 

Get excited and feel confident about the next stage of life. Learn the seven things you need to do before you retire. Download your FREE Essential Retirement Guide

Disclosure: For informational and educational purposes only and should not be construed as specific investment, accounting, legal, or tax advice. Certain information is based upon third-party data which may become outdated or otherwise superseded without notice. Third-party information is deemed to be reliable, but its accuracy and completeness cannot be guaranteed. Indices are unmanaged baskets of securities and are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio nor do indices represent results of actual trading. Information from sources deemed reliable, but its accuracy cannot be guaranteed. Performance is historical and does not guarantee future results. Total return includes reinvestment of dividends and capital gains. Neither the Securities and Exchange Commission (SEC) nor any other federal or state agency have approved, determined the accuracy, or confirmed the adequacy of this article. By clicking on any of the links above, you acknowledge that they are solely for your convenience, and do not necessarily imply any affiliations, sponsorships, endorsements, or representations whatsoever by us regarding third-party websites. Wealth Legacy Institute is not responsible for the content, availability, or privacy policies of these sites, and shall not be responsible or liable for any information, opinions, advice, products, or services available on or through these third-party websites. The opinions expressed by featured authors are their own and may not accurately reflect those of Wealth Legacy Institute®.


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