Adam Eagleston, CFA, is the Chief Investment Officer for Formidable Asset Management.

The end of the year is always a hectic time, and although some argue turning the calendar to a new year is capricious and arbitrary, most people (not to mention Uncle Sam) do not look at it that way. To that end, let’s look at four things you may want to be discussing with your financial advisor before the clock strikes 11:59 on December 31.

Taxes

Taxes are not quite as simple as you might think. Of course, the first place to look is at your year-to-date realized gains. Far sneakier than the realized gains you might see today are the capital gains distributions embedded in any mutual funds you own.

You may not have sold a single share, but due to factors beyond your control (other investors selling their shares of the fund, portfolio managers making buys and sells within the fund, etc.), you may have a gain headed your way. Actively managed mutual funds are the most likely distributors of gains, and given the sizable outflows active mutual funds have experienced this year, some of these gains may be sizable. Exchange-traded funds (ETFs) tend to be more tax-efficient vehicles.

Preparing for any required minimum distributions is also important. For those looking to give to charity, evaluating qualified charitable distributions may be worthwhile to consider. Looking at Roth conversions and maximizing contributions to tax-advantaged retirement accounts are also critical items to address with your financial advisor. Connecting your financial advisor and CPA before the end of the calendar year may help alleviate problems once April 15 nears.

Liquidity

A few years ago, there was not an opportunity cost associated with having too much liquidity (i.e., cash in a checking account). However, with interest rates now no longer stuck at zero, reviewing your cash balances is more important than it has been in recent history.

If you need liquidity in your account to meet expenses you anticipate in the near future, let your advisor know. But, before you just decide to stick (or leave) those dollars in a checking account, review what options you might have for putting that cash to work until you need it.

While some platforms may default investors into short-term cash and money market instruments that earn a reasonable income, others do not. Also, having lived through the financial (and Covid) crises, make sure you (and your advisor) know what is actually in any short-term money market fund you buy. Sometimes those extra few basis points of yield come with some risks you may not want to take.

Risk

Both stocks and bonds have experienced tremendous price swings since the pandemic. Your portfolio’s allocation to stocks or bonds may have changed significantly versus your longer-term target between the two. Also, maybe the past few years you have seen a change in your risk capacity (your ability to take risk) or tolerance (your willingness to take risk).

Risk capacity can be affected by things like a change in your household expenses or nearing retirement, while risk tolerance is that uneasy feeling you get as you check your portfolio every day during a market decline. Either way, making sure your portfolio is aligned with your ability and willingness to take on risk is an important topic to review at least annually with your advisor. For bonus points, ask your advisor about any index risk in your portfolio.

Income

As mentioned, and unlike most of the period since the financial crisis, we are in an era where investors can earn income from interest. However, on the other side of that equation is inflation, and we all know prices have been increasing over the last few years. Especially for investors at or near retirement, a portfolio that emphasizes dividend and interest income may help to prevent having to sell assets during a market decline to meet living expenses.

Look back no further than 2022. Investors forced to sell assets during a bear market to fund living expenses forgo the appreciation on these assets when markets rebound. Granted, it is not always the case that every decline is followed by an immediate rebound. However, selling ensures those losses are “locked in.”

Moreover, dividend income has historically represented a meaningful component of total return. Although that has not held true recently given current expectations for modest overall returns for stocks (at least according to Vanguard), a portfolio that emphasizes dividends may be something to consider. It could be a useful tool for helping investors achieve their returns objectives while also better managing their income needs.

The information provided here is not investment, tax or financial advice. You should consult with a licensed professional for advice concerning your specific situation.


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