Two money management firms that have specialized in offering tax harvesting strategies say business is way up since President Trump signed into law tax changes in Dec. 2017 that have severely restricted writing off state income taxes.

A key change, which will apply to the 2018 tax year, limits the amount of state taxes that can be deducted from federal returns to $10,000. The limit adds to the burden for investors in states with high state income taxes, like California  and New York, drawing attention to tax reduction strategies like tax harvesting that aim to reduce federal capital gains taxes by offsetting stock gains with losses.

One of the firms, Parametric Portfolio Advisors, a division of Eaton Vance Corp, said assets under management  in separate accounts in its index-based custom core tax harvesting strategy were up 29.31% between Oct. 2017 and Oct. 2018. At year-end, Parametric had around $62 billion in AUM in tax harvesting strategies, the largest of any money manager.

“We have had a nice pickup,” said John Moninger, managing director, retail sales at Eaton Vance, following the tax changes.

The tax-deferral strategies don’t offer dramatic returns over non-tax-harvesting investing, but for wealthy individuals—Parametric's minimum is $250,000—the benefits can add up as their portfolio size increases.

Typically, Moninger said, the Parametric custom core portfolios track within 1% of the index’s return while providing 1-2% in tax alpha.

Another firm, Managed Portfolio Advisors, a division of Natixis Investment Managers, said its assets under management in its tax harvesting strategies are up 30% in the last 12 months. MPA manages approximately $11.5 billion in tax harvesting strategies.

The fees to invest in such strategies generally ran between 30 and 40 basis points.

The worst state for investors dealing with an increasing tax burden is California. The maximum state tax in California of 13.3% for individuals earning more than a million dollars is applied to capital gains made by investors but starting in 2019 the state tax deductions used to reduce federal taxes won’t apply, except for the initial $10,000.

Neither firm has been able to quantify which states their increase in business is coming from, whether California and New York are fueling the boom for example- which have the number one and two highest state tax liability in the U.S.

“I think that the Trump’s changes certainly don’t hurt,” said Curt Overway, president and portfolio manager with Managed Portfolio Advisors, in explaining the overall increase in business in tax harvesting strategies.

The strategies can vary in their approach. The Parametric custom core strategy tracks closely to a client-selected index on a pre-tax basis and then aims to outperform on an after-tax basis. The strategy identifies stocks with losses that are sold throughout the year on a frequent basis while simultaneously identifying suitable replacement securities to keep the portfolio in line with the benchmark.

The replacement securities aren’t the same stock because of the SEC  “wash rules” which prohibit the sale of securities at a loss for tax purposes and then the buying of  “substantially identical securities” within 30 days.

Some financial advisors and family offices have been long-time users of tax-harvesting strategies, but the number is expected to increase with the Trump state tax deductibility limit.

“The Trump administration rules have heightened  the awareness of what taxes are doing, making clients who pay more taxes accurately aware of that, so tools that limit the overall tax bite are becoming more appealing,” said Rick Pitcairn, chief investment officer at Pitcairn, a Philadelphia area family office  that advises on $5.7 billion in assets under advisement.

Pitcairn is a long-time user of tax harvesting strategies from Parametric but has set a minimum of $500 million for such separate accounts.

Parametric and Modern Portfolio Advisors haven’t been shy in sharing the state tax deduction changes in white papers, promotional material and conference calls, aimed at getting more advisors aboard.

“It’s a discussion about Washington and Wall Street and how the decisions in Washington are impacting investors,” said Eaton Vance’s Moninger of the conference calls with financial advisors.

Managed Portfolio Advisors offers a view in its white paper of how the tax burden has increased in California following the Trump changes. It says that, under the old tax code, Californians in the top income bracket paid a marginal rate of 31.3% on long term capital gains and dividends− 20% in federal capital gains taxes, 3.8% in federal net investment income, and 13.3% in state taxes.

The paper says the deducting of state income taxes led to a break in federal taxes that amounted to 5.8%, before the tax changes eliminated the state deductions above $10,000.

Overway in his white paper says the Trump administration’s limit on state income tax deductions affects more than  California and New York. He notes the  new law lowers the federal marginal tax to 37% from 39.6%, for short-term capital gains, positively affecting individuals in states with no income taxes. Twenty-three states, however, plus the District of Columbia have state income tax rates that are 6% or greater, which Overway says more than offsets the reduction in the federal rate.

Advisors say interest in the tax-harvesting strategies will continue in  2019 as investors tackle their 2018 returns.

“We’re spending a lot more time with those tax reduction strategies than we had in previous years because of the change in tax law,” said David Strege, partner and senior financial planner at wealth advisor Syverson Strege and Co. in West Des Moines, Iowa.

He said the severe reduction in state income tax deductibility has spurred interest in alternatives to reduce overall taxes.

Strege said finding tax reduction strategies for wealthy investors is nothing new but some other opportunities outside of tax harvesting have become less attractive.  He said oil and gas drilling limited partnerships used to be a good write off because 89-93% of the investments could be deducted off federal taxes, but investment returns have been tempered by the decline in oil and natural gas prices.

Financial advisor Adriel Tam, CEO and founding shareholder of Viridian Advisors in Seattle, said his California clients are increasingly having discussions about their increasing tax burden, partially fueled by the new state tax deductibility rules.

“California is a wonderful state, but the taxes are really challenging,” said Tam. Tax harvesting strategies are one option, he said, but other may include assessing the investor’s need to maintain his or her primary residence in California.

Tam said 2019 will be a test year of sorts, because it would the first year that clients see the tax effects in states with high income taxes see the effects of the drying up of most of the state income-tax deduction.

Bernie Kent, chairman and senior advisor at Schechter Investments Advisors in Birmingham, Michigan, said he employs tax harvest strategies for all his clients at his firm, which has an AUM of $900 million.

Kent said he even in states without income taxes, tax harvesting still makes sense because of the capital gains reduction.

“I'm going to say everyone should be looking at it because whether you're paying a 37 percent  marginal tax rate in California or just a 15 percent rate in Florida, why should you pay that tax when you can defer it,” he said.

Kent said  more advisors will adopt the tax harvesting strategies in 2019 not only because of the  state income tax deduction changes but because of the recent market downturn that is causing losses for investors.

President Trump’s tax plan got much media scrutiny along with questions about whether The President was targeting states that had voted against him. Overway rejects that criticism in his white paper.

“The media portrayed this as an issue primarily for blue states with high tax rates,” he said. “The facts don’t fit quite as neatly into that narrative, however. California and New York with their high state tax rates and Texas with no state taxes certainly support that assertion, but there are a good number of more conservative states with relatively high tax rates of 6%+ (e.g. Georgia, South Carolina, Nebraska, Arkansas, and others) while left-leaning Washington state has no tax.”