With infrastructure and spending bills still in negotiation, and the future of tax rules still up in the air, advisors and investors may feel caught in planning limbo.
They can, however, be certain of one thing, said Jody King, vice president and director of wealth planning at Boston-based Fiduciary Trust: Taxes are likely to eventually increase for almost everyone.
“Even though we don’t have that good of an idea of what will eventually happen, my theory is that we should always be proactive with respect to at least the discussion of taxes,” said King. “I want my clients to hear about this from me and not from someone else.”
While everyone waits for clarity on tax policy, advisors may find that their clients are willing to make some moves now to prepare for higher taxes, she said, and they should be ready to make changes should tax law change.
But existing tax law is reason enough to revisit clients’ plans. King noted that the generous $11.7 million lifetime gift and estate tax exemption sunsets at the end of 2025 if Congress doesn’t act before that.
“With that in mind, it’s worth having a conversation about gifting and ask the client, ‘Are you in a position to do more gifting?’” King said. “A lot of times we’re seeing clients put things in trust to go ahead and use some of their exemption now, even if the law doesn’t change. That’s a good example of being proactive.”
She said it’s also worth taking a look at a client’s capital gains budget—the amount of losses and gains they’ve already harvested throughout the year—to see if more of these can be used before 2021 is over. Clients might want to take more gains in 2021 before a potential jump in brackets or an increase in marginal rates.
Advisors and investors must also keep in mind potential changes to IRA rules, particularly Roth IRA conversions, King said. Not only has Congress considered rules to restrict and force drawdowns from so-called “mega-IRAs” (those with balances in the tens of millions of dollars), but it has also considered banning backdoor Roth IRA conversions for some or all investors.
“The general rule is that rates go up over time, so it’s a good idea to save in a Roth, but that’s not always the case,” King said. “A lot depends on the circumstances of their wealth and income picture. But depending on someone’s age, their ability to pay the taxes from non-IRA assets and considering the current income tax environment, there’s more reason to convert more assets to a Roth earlier.”
Given the changes to tax rules for inherited traditional IRAs—most beneficiaries now have to exhaust these accounts and pay income taxes on their balances within 10 years of the original owner’s death—those who expect to hold intergenerational wealth in their IRAs should also consider converting to a Roth account.