By: David Parks, CPA/ABV | dparks@deandortonwealth.com and Matt Parks, CPA | mparks@deandortonwealth.com
As we all know, the effects of the COVID-19 pandemic have been significant, impacting in some way nearly every aspect of society over these past several weeks. On the financial front, we have seen major upheaval to the economy, and we unfortunately saw a quick and steep decline in equity markets in mid-to-late March. Even with substantial recovery in overall market equity prices over the last few weeks, some stocks are still down considerably from their pre-pandemic values, and much uncertainty remains regarding if, and when, markets will fully recover.
When markets decline, the first instinct of some is to “bale out;” for others, it is to “bury their head” in the proverbial sand and do nothing. We believe the best approach is to take inventory of one’s current situation and then to make prudent investment and financial decisions to help maximize long-term investment growth, minimize taxes, and shore up one’s financial footing to be better prepared for the next negative financial event. Accordingly, we believe this is an opportune time to do an investment “check-up.” Below are nine items for your consideration.
General Investment Considerations
- For those holding a mix of equities and fixed income securities, this is an ideal time to re-balance one’s portfolio. By selling off some fixed income holdings at relatively strong prices and purchasing equities at their current low prices (relative to previous highs), you would be taking advantage of the opportunity to “sell high and buy low.”
- Having gone through an actual and significant downturn in the market in a short time, this is a good time to re-evaluate one’s tolerance for risk and to make necessary adjustments in one’s asset allocation. In good times, we sometimes think we are comfortable with more risk than we really are. If you determine changes are needed in your asset allocation, we do caution, however, against over-reacting to the recent market decline and selling out of equities while values are down.
- For those with excess cash, this may be an opportune time to invest additional amounts into equities while some values seem to be relatively low.
Tax-Efficiency Considerations
- For those with taxable accounts, this is a good time to “tax loss harvest,” with certain stock values being down considerably. In doing so, however, we encourage you not to let the “tax tail” wag the “economic dog,” but where appropriate, it may make sense to harvest tax losses during what may appear to be a temporary decline in the market. For mutual fund holdings, there may be opportunities to harvest losses and buy back very similar funds (where appropriate) and avoid the wash sale rules.
- This also may be a good time to “tax gain harvest.” For those with long-term gains in their portfolios, but who will have low taxable income in 2020, there may be an opportunity to recognize some gains at a 0% federal capital gain rate, depending on one’s overall income. If the sold shares are still desirable, the investor could repurchase the shares, effectively achieving a tax-free step-up in basis – with the only costs being trading costs.
- This also potentially is a good time to convert tax-deferred monies (e.g. traditional IRAs) to tax-free monies (e.g. Roth IRAs) while stock values are down and current year taxable income from other sources may be down.
Other Considerations
- For those looking to transfer wealth to the next generation in a tax-efficient manner, this may be an opportune time to gift equity securities while values are down.
- COVID-19 has shown many of us how important it is to have money set aside for unforeseen events. This is a great time to re-assess one’s emergency fund—making sure adequate liquidity is being maintained for the unexpected.
- If we have learned anything over these past three months, we have learned how quickly circumstances can change and how important it is to be prepared. This is a good time to re-assess one’s progress toward being ready for retirement—especially noting that stock values are down, interest rates are low, and there will be considerable pressure on the Social Security system and other government programs for years to come.
While all of these action steps are worth considering, multiple moving parts to many of these require considerable analysis to make the best decision and to implement them in the most effective and efficient way possible. We would welcome the opportunity to assist you with these matters, and we encourage you to talk with your Dean Dorton tax advisor or wealth advisor before making significant decisions.
