David's Financial Tips
Taxes and Investments
When most investors consider the costs and fees associated with their investments, their focus is primarily on the direct expenses embedded in the assets they hold. These expenses are most commonly seen as either transaction costs when investments are bought or sold, or in the form of annual management expenses. While these expenses are important and need to be consistent with the level of value received in exchange, they pale in comparison to the largest expenses our investments will likely ever experience. This expense is the tax that we will all incur based on the type of income our investments generate.
At Carolina's Wealth, we have always stated that the only way to earn a higher rate of return without taking any additional risk is to pay less in taxes. By paying less tax we are able to keep more of what we earn, thus increasing the net return on our investments.
There is constant talk in Washington about the potential for lower taxes but let’s please not let that be our strategy for keeping more of what we earn. There are many strategies/techniques to help us manage our current and future tax liability. One relatively obscure strategy is to move assets from a 401k plan to a non-retirement account through the use of Net Unrealized Appreciation (NUA).
This particular strategy only exists for individuals whose 401k accounts were invested into the stock of the company for which they work/worked. NUA allows you to move the company stock from the 401k into a non-retirement account while only requiring ordinary income tax on the cost basis of the stock. Most people for whom this strategy is an option have a low cost basis as they have accumulated the stock over decades and the stock has appreciated in value. Thus they only have to pay tax on the cost basis and can then receive qualified dividends and long-term capital gains tax treatment outside of the 401k plan. Another benefit under current tax law is that the value of the company stock could then go tax free to their heirs as well. I still have yet to figure out the rationale for availability strategy. But as most NUA transactions involve high net worth corporate executives, I can only imagine why such a loop hole may have been implemented.
We know that everyone’s financial situation is different and thus require strategies that vary based on needs and resources. Though NUA is an option only for the few, we believe that investors should explore all avenues available to them in order to be as efficient with their assets as possible. Remember, you can achieve a higher rate of return without taking additional risk merely by maximizing the tax efficiently of your assets.