Investment income can quickly incur hefty taxes. There are ways wealthy clients can mitigate this tax bite, though some are more effective than others.

“Taxes are not taken into account often enough when managing investments, but investors need to be careful when choosing strategies,” said Jimmy Lee, founder and CEO of The Wealth Consulting Group, a national wealth management firm headquartered in Las Vegas. “I’ve seen numerous occasions where an investor makes decisions with their investments to avoid paying taxes—and the tax consequences ended up being nothing compared with the incorrect investment decision.”

Investment interest expense, for example, involves interest on money borrowed to invest in stocks, taxable bonds and similar assets. “While the expense is deductible, it’s not really impactful to most people,” said Ben Barzideh, wealth advisor at Piershale Financial Group in Barrington, Ill. “A very small percentage of people purchase investments using margin, so the deductibility of interest expense is not that relevant. Second, you have to itemize to show that expense, and with the new tax law and the standard deduction doubling, around 90% of Americans will be taking the standard deduction.”

“Incurring the expense works against a long-term investment strategy,” added Dean Mioli, a CPA, CFP and director of investment planning at Independent Advisor Solutions by SEI in Oaks, Pa. “Borrowing money to invest does not make sense for most investors.”

Interest paid for investments in passive activities, such as businesses the investor isn’t materially involved in running, generally won’t qualify for the deduction.

“The 3.8% net investment income tax (NIIT) surprises many,” added Joe Bublé, a CPA and partner at Citrin Cooperman in New York. “In addition, the loss of the deduction of state and local income taxes can cause the effective long-term capital gains tax rate on the sale of stocks for, say, a New York City resident to be as high as 36%.”

Net investment income includes interest, dividends, capital gains, rental and royalty income and non-qualified annuities. The NIIT applies to this income when adjusted gross income (AGI) exceeds $250,000 for those married filing jointly and $200,000 for single filers.

“Review the 2018 return to see where your client’s AGI is over the threshold,” Mioli said. “Make sure you’re tax-loss harvesting for your clients to drive down capital gains and ... consider relocating income-producing assets to tax-deferred and tax-free accounts.”

“The NIIT also applies to most estates and trusts that have net investment income over certain thresholds,” said Glenn DiBenedetto, a CPA and director of tax planning at New England Investment & Retirement Group in North Andover, Mass. “Some clients have been pleasantly surprised that certain gains from sales of their closely held businesses were not subject to the NIIT.”

Another key factor is the nature of the investment income. “If the investment income is for a long-term capital gain ... and from dividends, then this investment income is taxed at a favorable rate of 15%, although a 20% rate applies to those in the top brackets,” said Jim Brandenburg, a tax partner at Sikich in Milwaukee.

First « 1 2 » Next