By Lee Sherbakoff, CFP/PFS, CFP, RICP
The reality is you owe taxes whenever you make money—or, in IRS terms, when you’ve realized gains. After selling an investment at a higher price than what you paid for it, capital gains tax is waiting right around the corner for a slice of your profit. But there are ways to minimize what you owe in taxes so you can keep as much profit as possible. However, before you do anything, always seek advice from your tax professional.
1. Invest for the Long Term
It’s no surprise that long-term capital gains tax rates are more appealing than short-term rates. The longer you hold onto your investment, the better you can take advantage of long-term capital gains. Therefore, we recommend to play the long game and wait at least a year to sell investments. If you decide to sell your investments in less than a year, then it could result in short-term capital gains tax. It’s all about timing.
2. Take Advantage of Tax-Deferred Retirement Plans
Investing your money in a retirement plan is possibly one of the smartest things you can do to minimize your tax burden. Whether it’s a 401(k), 403(b), or IRA, you can bypass immediate capital gains taxes while buying and selling investments within your retirement account.
Here are some other accounts that can potentially defer your capital gains just like the plans listed above:
- 529 college savings plans
- Health savings accounts (HSAs)
- Flexible spending accounts (FSAs)
3. Choose Your Stock Lots Wisely
What some investors may not know is that when they buy stock, it’s assigned a lot number. This number determines the cost basis for each of the shares you’ve bought. The cost basis is typically determined by the price of the share at the time of each purchase. For instance, what if you bought three shares of the same ETF but at different times? Maybe you paid $126 and $130 for the first two shares, and let’s say a couple of weeks later, you bought a third share at $89.If you wait a bit longer, and the price of the stock begins to rise, your first two stocks will show the most depreciation, while your third stock’s lot would’ve appreciated. Some brokerage accounts use the first in, first out (FIFO) rule. By using FIFO, your oldest lots will be sold first. It all depends on the stocks you decide to buy, their market fluctuation, and cost basis.
4. Pass Down Appreciated Assets by Inheritance
When planning to pass down assets to your children, the last thing we tend to think about is taxes. What many pre-retirees don’t know is that assets passed down at the time of death allow their children to pay tax only on the capital gains after they inherit your property. This is often referred to as a one-time “step-up in basis.” When assets are passed down to an heir, the capital gains from the deceased person’s assets are eliminated due to the step-up in basis, which alleviates the beneficiary’s tax burden.
We’re Here to Help
Capital gains tax is just one aspect of financial planning, and it can become a headache when figuring out how much you owe. But it’s important to remember that capital gains mean your investments are working in your favor. Whether you decide to reinvest your money in other ventures or defer capital gains, there are ways to work them into your financial plan so you can reap the benefits.
We at The Nalls Sherbakoff Group enjoy helping our clients navigate their financial planning. Interested in learning more about tax planning before and after retirement? Set up a complimentary appointment so we can see if our services are the right fit for you by calling us at (865) 691-0898 or contacting us online.
Lee Sherbakoff is principal and financial advisor with The Nalls Sherbakoff Group, LLC, an independent, fee-only financial planning, and investment management firm. He specializes in serving pre-retirees and retirees, helping them create and execute financial plans and retirement income plans that lead to sustainable long-term, real-life returns that meet their deepest and most important financial goals and objectives. Lee has a Bachelor of Science in Finance from The University of Tennessee and a Master of Strategic Studies from the U.S. Army War College as well as the Certified Public Accountant (CPA), Personal Financial Specialist (PFS), Certified Financial Planner (CFP), and Retirement Income Certified Professional (RICP) credentials. Lee spent over 31 years in the U.S. Army Reserves, including serving at the Army’s highest levels on the Department of Army staff at the Pentagon and being deployed in support of Operation Desert Storm (1991) and Operation Iraqi Freedom (2008-2009). When he’s not loyally serving his clients, Lee enjoys giving back to the community and to his profession, acting as a council member of the Tennessee Society of CPAs and a member of the American Institute of CPAs. In addition, he is past President of the Knoxville Chapter Society of CPAs and past President of the East Tennessee chapter of the Financial Planning Association. To learn more about Lee, connect with him on LinkedIn.
DISCLOSURES: The information provided is for general informational purposes only and should not be considered an individualized recommendation of any particular security, strategy or investment product, and should not be construed as investment, legal, or tax advice. The Nalls Sherbakoff Group, LLC makes no warranties with regard to the information or results obtained by third parties and its use and disclaim any liability arising out of, or reliance on the information. These indexes reflect investments for a limited period of time and do not reflect performance in different economic or market cycles and are not intended to reflect the actual outcomes of any client of The Nalls Sherbakoff Group, LLC. Past performance does not guarantee future results.