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Nov 16, 2020

Prepare Clients for Unprecedented Year-End Financial Planning

Any time you describe anything as being an object “like no other,” you run the risk of being accused of hyperbole. However, when it comes to personal financial planning, the number of variants contributing to the environment this year – an ongoing pandemic, the results of a historic election, and financial volatility – makes this year-end like none we have seen. In a preview of his winter 2021 Pennsylvania CPA Journal Personal Financial Planning column, Will Velekei, senior financial adviser for Corbenic Partners in Bethlehem, Pa., discusses factors to be considered during a wild year-end planning season.

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By: Bill Hayes, Pennsylvania CPA Journal Managing Editor

Podcast Transcript

To say that 2020 offers a year-end financial planning environment like no other might sound a bit cliche, but consider everything that individuals are dealing with – an ongoing pandemic, a bevy of related legislation, a historic election season, major financial volatility – and you most likely will forgive the hyperbole. In his winter 2021 Pennsylvania CPA Journal Personal Financial Planning column, Will Velekei, senior financial advisor for Corbenic Partners in Bethlehem, discusses possible year-end opportunities personal financial planners should make their clients aware of, and today we offer a sneak preview of the article.

Before we get into the specifics of 2020 year-end planning opportunities, just a general question here: With all the factors we're facing – COVID, the financial volatility, etc. – how does 2020 compare to other years as far as complication, opportunity, and need for additional planning?

[Velekei] I'm not sure I or anyone could make an accurate comparison to 2020. If only we had a crystal ball on December 31, 2019, I think we would have all been a little bit surprised at the events that unfolded at the end of the first quarter here.

There were just so many things happening at an exponential pace. And I actually have a feeling it will continue into 2021, especially as we enter election season here.

I think we saw the legislation of the Cares Act passed earlier in March of this year, which really opened up the door for CPAs and financial planners to proactively reach out to their clients on multiple fronts. From required minimum distributions to the Paycheck Protection Program loans. I will say, trying to sift through the legislation and applying it to our clients felt a little bit reminiscent of the Tax Cuts and Jobs Act of 2017, which was basically one of the largest overhauls of the Tax Code since the 1980s.

However, in 2017, we weren't battling the force of a global pandemic and watching the economy virtually crumble in what seemed to be a matter of weeks earlier this year. I think it's extremely important to not only talk about the financial aspect of this, but also very, very relevant to realize the human element in the entire situation. This was an issue that everyone was facing with the same amount of uncertainty. In our office here, we thought it was a bit reminiscent of 9/11, when there was genuine fear in people and the main priority wasn't necessarily financial; it was the health and safety of you and your family. I think that for drawing comparisons I would say, from a financial perspective, probably the Tax Cuts and Jobs Act of 2017, with sifting through the legislation. But from a human perspective, like I said, 9/11 was somewhat of an accurate comparison in terms of the feelings and emotions that everyone was feeling.

I think the other issue too that this year presented, which has been challenging, is figuring out how to communicate effectively with each other and our clients in a safe way. I think we're so used to sitting down across the table from our clients and each other, or having a cup of coffee, but that was obviously taken away from us. We and our clients had to quickly adapt to talking over the phone or holding a videoconference call. On one hand, I think it turned out to be a net positive since communication was directly increased. However, what we learned, I believe, is there's really no digital replacement for the ability to interact or collaborate in person with clients or colleagues.

Now we can get into some of those specifics that you talked about in your article for the magazine. How does the coronavirus and the Cares Act affect how people should be approaching required minimum distributions at year-end?

[Velekei] Required minimum distributions were one thing that really did impact the retirees directly that were of age to take the requirement of distributions. However, I think it's important to step back because, prior to this year, the Secure Act was passed, actually increasing the age from 70 1/2 to 72 years old when required minimum distributions, or RMDs as we call them, must be taken. As you alluded to with the passing of the Cares Act in March of this year, RMDs were waived for the year for people who otherwise were required to take the funds from their traditional IRAs or other retirement vehicles.

The first point to note is that if retirees do not need the income or funds that their RMD otherwise would have provided them to live, it would be a beneficial tax move not to take their RMD this year, and actually leave it in their IRA or retirement account.

Not only does this continue to grow in a tax-deferred manner, it will not be counted as income if it's left in the IRA, which would be taxed if it were otherwise taken as a distribution. Just real quick: a couple of follow-up notes on that point. If an RMD had been taken prior to the passing of the Cares Act in March, you had until August 31 of 2020 to repay it back into your IRA without any tax implications. Obviously, that date has come and gone. If clients have our automatic RMDs set to distribute funds prior to the end of the year, although we are past that August 31 deadline, clients are able to use the 60-day rule to return that distribution and not be taxed on it. That's an important note.

Also important to note that this conversation of not taking an RMD is only relevant if the client does not need that distribution to be able to maintain their living or their budget. If a client needs the funds and the IRA is the only source of assets to draw from, well, distributions must be taken then. We don't want to have a potential tax benefit and hamstring any of our clients to be able to live and maintain their lifestyle. That's important to note too.

One planning opportunity that has been opened up by this legislation, especially specific to RMDs and the waiver of RMDs with the Cares Act passing, is if the funds are not needed you could take what you would have been distributed in the form of an RMD and execute what we call a Roth IRA conversion. You could do more or less than the RMD amount for this Roth conversion. You would still pay income tax on the funds that are converted, and one may ask if I have to pay tax on the funds converted, why would I do this in the first place? Our thinking is that tax rates will most likely be higher in the future than they are today.

This has nothing really to do with the election or proposed tax policies from Joe Biden and the Democratic Party. We're simply looking at the macro picture with the ballooning debt and entitlement programs so many people count on in this country, and the fact that our rates are right now, which most people don't realize, historically low compared to other points in our history. With that, we believe tax rates are more likely to increase in the future. Therefore, it may be beneficial to pay tax today at lower rates on future taxable dollars in traditional IRAs and other retirement vehicles than at a period of potentially higher tax rates down the road.

For people who have worked hard to put themselves in such a position, how does this situation affect retirement decisions? Might there be a reason to retire early if that's an option for an individual?

[Velekei] I think this year has had a large impact on people's thinking and people contemplating retirement, or even planning for retirement a few years down the road. I think it emphasizes too, and we always say this as CPAs and as financial planners, it emphasizes the need to start planning early and often since unforeseen circumstances can really come at any point in time, such as COVID in 2020. I don't think anyone would have anticipated or thought, unless they had that crystal ball on December 31, 2019, what the virus, and the implications of the virus, would have had on financial plans and just healthcare and people's emotions in general. Put simply, I always ask what type of lifestyle clients picture themselves living in retirement. I try to put a dollar amount to that lifestyle, then conservatively project whether or not a client's savings or accumulated assets to this point are able to support that lifestyle, while stress-testing periods of volatility like we saw this year – quite frankly, all of this year, but back in March especially.

I think from assets being able to support retirement, I think that's the first step. Having a plan is ultimately what you need and what you want to do, and, as I said, I can't emphasize it enough, starting early and starting often is a way to get out in front of unforeseen circumstances because it sounds cliche, but we all know life never goes according to plan.

I think there's other considerations to keep in mind too. If you are leaving a job or possibly losing a job in this year's economy, review your health care options since retirement, whether chosen or forced, before Medicare eligibility age of 65 really has large financial implications. Typically one of retirees’ largest expense line items before age 65 is the cost of private health care.

That said, you also want to understand your access to retirement benefits. The Cares Act also provided the ability to waive some of the penalties and taxes that were in force on retirement plan distributions before the age of 59 1/2. If you find yourself in a hardship scenario or lost a job from COVID, it's important to dive into the details of your retirement plan and how you have access to it at this point. It's a good time to review a client's 401(k) and other retirement plans. In addition to retirement plans and 401(k)s, there's also other defined benefit plans in terms of pensions within clients’ potential retirement packages.

What is tax-loss harvesting, and why might it come into play for individuals making planning decisions before the end of 2020?

[Velekei] The extreme market volatility this year has created the opportunity for the strategy which you referred to as tax-loss harvesting. The premise of tax-loss harvesting is to sell positions within your taxable investment accounts and replace them with positions of a similar strategy or objective. This allows investors to stay invested, to avoid missing the upside, but also realizing the loss to offset any capital gains. For instance, we saw a 40% decline from the highs of March or February of this year, to the lows of March 23rd, and then the market turned on a dime and has really been going up ever since as a broad index. However, within that drop, that caused your investments to go down in value, which provided the opportunity to sell at a loss, realize that loss for tax purposes, again, to offset any capital gains, and use that against any type of income or capital gains going forward. Now the deduction is limited to $3,000 per year and that is offset against other capital gains in your portfolio or realized capital gains elsewhere.

The best opportunity to execute a tax-loss harvesting strategy is at or near market lows to extrapolate the greatest loss. However, there's still some time before the end of this year to capitalize on taking some extra losses. Some sectors have outperformed others since the end of March when the market as a whole recovered, leaving some investment assets that have not fully recovered for this strategy. However, if you take an example like the airlines, a specific example would be American Airlines hasn't recovered as the broad market, so you're most likely if you bought American Airlines at the beginning of this year, you're still likely underwater for the end of this year too. So a simple strategy would be to sell American Airlines at a loss, realize that loss, and perhaps buy Delta. Again, I'm giving an example of a strategy that would work, but also effective from a tax standpoint in terms of realizing the loss.

What would you say is the most valuable role a CPA personal financial planner can play for a client in a year that's been as turbulent as this one in 2020?

[Velekei] I think we touched on a lot of the opportunities that 2020 has offered from a financial planning perspective. I think technical expertise and making our clients aware of these changes and strategies from a financial perspective should be expected from CPAs and planners in a year like 2020. However, as I alluded to in the beginning of our conversation, life was coming at us from all different angles this year, and with that level of uncertainty, people really wanted to hear that their families would be okay through all of this. I think we are still having those conversations. Throw on top the election, which seems to be one of the more emotionally charged elections in recent history, so not only do we wear the hat of CPAs and planners, we then become the families’ or our clients’ trusted advisor. I think we have the unique opportunity to be that balanced, rational voice with our clients this year and take it beyond just tax returns, spreadsheets, and numbers.

We were able to learn about our clients what we may not have been able to in past years and develop deeper relationships, which I truly believe will enhance our business and the work we do with our clients, both now and into the future.

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Podcast transcripts are provided as a summary of the conversation and have been lightly edited for the written medium. The transcript is not a verbatim representation of the interview.
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