Investment advisor Less Antman knows more about taxes than your average experienced advisor. In fact, he knows more about taxes — far more, actually — than your average CPA.
The Fallbrook, Calif.-based RIA once offered to view the past several years’ tax returns of a new client and found buried within an item that materially affected the client’s wealth. He told the client to have her CPA file amended returns.
The CPA, a seasoned practitioner catering to high-end clients, drew a blank; his partner, particularly well known in the city, and also with decades of experience, also failed to grasp the opportunity.
Antman gave the client the relevant tax code citation and advised the client, who was eager to pay him to do the work, not to think any less of the two CPAs for their ignorance of a highly obscure tax provision.
The now inactive CPA spent 27 years teaching review courses for would-be California CPAs, giving him a uniquely deep knowledge of the tax code’s quirks. He also spent lots of time reading about taxes and tax planning ideas, but very little actually preparing returns and giving tax advice to clients.
Regarding the obscure provision he identified, he told the client, “I know these things because I’m not doing tax returns all day,” citing as a relevant comparison Dr. Dean Edell’s encyclopedic knowledge of the medical issues that callers to his now-defunct national radio program posed.
Today that tax knowledge comes in handy since, through tax-loss harvesting and the use of margin, Antman is able to save some clients as much as $100,000 a year through the effective tax management of their investment accounts.
Of course, such high savings imply large accounts, and indeed, the founder of financial planning and asset management firm SimplyRich counts several decamillionaires among his high-net-worth clientele.
But he also serves, as a favor to friends and family, some middle-class clients as well, and thus can offer perspective as to what advisors need to know and don’t need to know about taxes.
By and large, and perhaps to the relief of many, “except for advisors who work with high-net-worth clients or those who are dealing with stock options; [advisors] don’t really need to know much of anything about taxes,” he tells ThinkAdvisor in a phone interview.
Moreover, Antman adds that “a little knowledge can be a dangerous thing” and discourages a tax focus for advisors to the middle class.
The reason: “Most people lose more money trying to reduce taxes than they save in taxes,” he says. “This is why they end up going into annuities or municipal bonds or maintaining concentrated positions that are dangerous rather than diversifying and paying taxes.”
The taxation expert says that advisors must “realize that they don’t actually understand the tax code. Nobody does,” he modestly offers. “And if they get to the point that they understand it, they’re just going to change it again,” he jokes.
With those caveats in mind, here are four ways advisors can truly help their clients — from the superwealthy to the middle class — with taxes. Sometimes, it’s what you don’t overdo that helps clients most.
1. Beware the Bypass Trust
That propensity to make tax-driven bad decisions leads to Antman’s first key practical takeaway for investment advisors: They should ask their clients if they have a bypass trust (also known as a credit shelter trust), then advise them to discuss with their estate planning attorney whether to get rid of it.
“I know several people who designed bypass trusts in order to minimize estate taxes in the ’90s back when the lifetime exclusion was around $600,000 per person,” he says.
“Now it’s over $5 million per person, and a lot of people who carefully planned their bypass trust have lost the stepped-up basis on the death of the second spouse because they have assets in the bypass trust that won’t be exposed to estate taxes but [now also] won’t get the reset tax basis because they’re in that trust.”
In other words, few wealthy couples expected just a little over a decade ago that they’d be able to pass $10 million to their heirs free of federal estate taxes after the death of the surviving spouse based on an altogether new “portability” rule.
Portability allows the surviving spouse to transfer the unused portion of the deceased spouse’s exemption, and then upon the surviving spouse’s death, the heirs get a stepped-up basis shielding them from tax up to today’s generous exemption.
In short, “a bypass trust now often causes tax harm,” Antman says. He does note that there are other reasons bypass trusts are used that may still be relevant, such as protecting the children from a first marriage, and reminds advisors to merely suggest that clients discuss the matter with their estate attorney. Although many bypass trusts will, in fact, raise taxes on a client’s heirs unnecessarily, not all bypass trusts are useless.
2. Don’t Rebalance Too Much
A second key takeaway that applies to most advisors:
“Keep tax planning simple,” Antman says.
“In taxable accounts, maximize equities to take advantage of deferral of unrealized gains and favorable rates when gains are realized, and use index funds or funds that minimize the turnover of profitable positions. ETFs are particularly tax-friendly because sales are often executed through nontaxable transfers of positions with other ETFs or large institutional investors. As far as possible, keep real estate investment trusts, interest-bearing investments and high-turnover funds sheltered. When rebalancing, first change the investments in sheltered accounts or by recommending the client change their 401(k) allocations, and only rebalance in taxable accounts with new money or the proceeds of dividend distributions.”