Many of our clients and friends have shown concern recently about a possible recession in the near future. Many economists believe there is a chance a downturn will come later this year. Nobody likes seeing losses within their accounts. However, even during a bear market, there are still opportunities for financial planners to add value. Here are some of the strategies that we employ during market downturns.
For people who have taxable accounts (non-retirement accounts), we suggest using a tax-loss harvesting strategy. Tax-loss harvesting involves selling an investment at a loss. While this may seem counterintuitive, it can be a great way to make lemonade when you have lemons. The resulting realized losses can be used to offset current or future gains. By harvesting losses within your taxable account you may significantly lower your tax bill and better position your account moving forward. If your capital losses exceed that of your capital gains in a given year, you can deduct up to $3,000 from your taxable income. Any balance you have after deducting the $3,000 can be carried over onto future tax returns. It is important to note that these carryover losses never expire!
Roth conversions are when an investor converts money from pre-tax to after-tax status, usually by converting Traditional IRA assets to Roth IRA assets. You can convert all or part of the total in a Traditional IRA into a Roth IRA. Any money you convert is taxed as ordinary income in that year. However, now that your money is in the Roth you will be able to take tax-free distributions in the future.
Why use a Roth conversion during a down market you ask? If your account is lower due to a down market, you will pay less tax because you are converting less money. When the market recovers, your funds will be in Roth status, meaning you will be able to access that money tax-free at a later date.
One opportunity that young investors can consider during a bear market is increasing their contributions within their workplace retirement plan and other investment accounts. Shares are less expensive during a down market. If you are not already maxing out your contributions in your employer-sponsored plan, you may consider increasing your contributions. If you're already maxing out your employer-sponsored plan, consider contributing to a Roth IRA or taxable account. It is important to make sure you aren't phased out of making normal Roth IRA contributions.
Let's imagine you have your eyes on a particular pair of shoes. If a price increase is announced, you wouldn't be in a hurry to buy them. But if a big sale occurs? BINGO, that's a much better time to buy them. Think of investing the same way. During a bear market, the shares can be viewed as "on-sale". Anyone that has excess cash savings, particularly young investors, should consider a more aggressive buying strategy when markets are down.
These are just some of the strategies that Integrity Wealth Advisors uses to help our clients live their best financial life. The markets will not always be in your favor, it is important to have a plan in place for all market environments.
These strategies have tax implications. It's important to implement them only after discussing them with your tax professional.
Written by: William "Billy" Vail (Financial Advisor)