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Financial Planning > Tax Planning

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Advisors must be ready to make adjustments to clients’ retirement portfolios quickly, depending on the recommendations of a new Super Committee called for under the Budget Control Act of 2011.

So warned Robert Keebler, who spoke during the first of two general sessions of the Society of Financial Service Professionals’ inaugural “Clinic for Advanced Professionals.” The two-day event was held on August 16-17 at a Marriot hotel adjoining Philadelphia International Airport.

“When we get to November 23–when the Super Committee unveils its proposals for further reducing the budget deficit–you’ll want to block out time to review the committee’s recommendations because they will likely affect your clients,” said Keebler, a partner at Keebler Associates, Green Bay, Wis. The scary part, Keebler noted, is that some of the committee’s recommendations could be implemented as early as January 1, 2012.

“That means you will have just 38 days to develop pivot points based on three unknown variables: the 2012 elections, Congressional action to reign in the nation’s deficit, and the direction of the economy,” Keebler said. “You will all have to work very quickly to come up with solutions.”

To that end, said Keebler, advisors must be able to “work at the intersection between finance and tax.” That is, they must develop strategies that will minimize the tax bite for high net worth clients during both the wealth accumulation and retirement income distribution phases of a financial plan.

Keebler noted, for example, that for affluent individuals in high income tax brackets, current tax law favors placing bonds in individual retirement accounts, and positioning stocks inside taxable brokerage accounts. The reason: The long-term capital gains rate on stocks, now 15%, is substantially lower than the top 35% income tax rate the high net worth pay on interest earnings from bonds.

Taxes strategy also comes into play when deciding on an appropriate sequence for withdrawing funds against multiple retirement accounts. To illustrate, Keebler cited a hypothetical retired couple who must annually take $150,000 from a $1 million Roth IRA, a $2 million IRA or a $3 million brokerage account. Keebler said that the couple can minimize income tax by withdrawing first against the brokerage account, then the IRA, and thereafter the Roth IRA.

“If you really want to gain an edge in the marketplace, then you have to bring this tax knowledge to the table,” said Keebler. “By following these [income distribution] strategies, you can add between three and five years to someone’s retirement income. That’s substantial.”

Keebler added that interest in life insurance as a tax-sheltering vehicle is sure to rise absent changes to new tax provisions that take effect in 2013.

(Among them is a new 3.8% Medicare “surtax” that will apply to all taxpayers whose income exceeds a certain threshold amount. A taxpayer occupying the 39.6% marginal bracket will, with the surtax added, pay a marginal of 43.4%. Add in state income tax, and the effective marginal rate rises to about 50%, said Keebler.)

Like annuities, cash values inside life insurance grow tax-deferred. But, noted Keebler, insurance offers an additional advantage for those seeking to use the cash value for retirement income: the non-taxable principal (or basis) is drawn down first, then income-taxable earnings (also known as FIFO (first-in, first out), as opposed to LIFO (last-in, first out)).

Keebler added that affluent investors will also be attracted to insurance because of the product’s high internal rate of return and (especially for second-to-die policies) low mortality cost.

“The beauty of life insurance is this: When a policy eventually matures, the proceeds are distributed tax-free,” he said. “For very affluent families, we’ll recommend a second-to-die policy because the mortality cost on the contract is considerably less than it is for separate, individual policies.”

Keebler said also that he strongly urges clients who are thinking of canceling their life insurance policies (because, for example, they expect to fall within the current estate tax exemptions at death) to keep the policies in the event that a future Congress lowers the exemption or raises estate tax rates. Without life insurance proceeds, he added, beneficiaries of an estate might have to pay tax on the estate from an inherited IRA.

“Clients need to have a source of liquidity to pay any eventual estate tax,” said Keebler. “The last thing you want to do is reach into a Roth IRA to pay the estate tax because all future distributions from a Roth over a 30- to 40-year life expectancy of a child come out tax-free. That has to be a critical consideration in any estate plan.


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