Home Adviser Fund Update Fine Tune Your Portfolio for 2014 Published December 6, 2013 Fine Tune Your Portfolio for 2014 With just a few weeks left in the year, time is running out for those who are considering potential year-end tax saving moves. While it may be difficult to focus on these things during the hectic holiday season, the seven steps outlined below could pay dividendsA cash payment to investors who own stock in the company. in 2014 and beyond. 1. Consider Rebalancing At the start of each year, you’ll hear a lot about rebalancing from the press and mutual fund providers—specifically, it is pushed as something to do as you make your New Year’s resolutions. We have a different take, however. For those who need a refresher, rebalancing involves selling shares of those stocksA financial instrument giving the holder a proportion of the ownership and earnings of a company., bondsA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. or funds in your portfolio that have had gains and reinvesting the proceeds in assets that are currently underweighted in your portfolio. For example, consider a hypothetical investor who invested in a portfolio comprised of three mutual funds on a year ago, with one-third in a large-cap domestic fund, one-third in an international stockA financial instrument giving the holder a proportion of the ownership and earnings of a company. fund and one-third in a U.S. Treasury bondA financial instrument representing an IOU from the borrower to the lender. Bond issuers promise to pay bond holders a given amount of interest for a pre-determined amount of time until the loan is repaid in full (otherwise known as the maturity date). Bonds can have a fixed or floating interest rate. Fixed-rate bonds pay out a pre-determined amount of interest each year, while floating-rate bonds can pay higher or lower interest each year depending on prevailing market interest rates. fund. Due to variations in the performance of these funds over the past year, the investor’s asset allocation today would be noticeably different, as Treasury bonds have underperformed stocks over this period, while U.S. stocks have outperformed international stocks. The industry-accepted approach for this investor would be to rebalance back to the original asset allocation. For someone focused on a specific riskThe probability that an investment will decline in value in the short term, along with the magnitude of that decline. Stocks are often considered riskier than bonds because they have a higher probability of losing money, and they tend to lose more than bonds when they do decline. profile or keeping a strict asset mix, rebalancing could be a valid practice. At Adviser Investments, we contend that unless a portfolio has seriously diverged from the original allocation, rebalancing is often unnecessary or of little benefit. In looking at the effects of portfolio rebalancing at various regular intervals versus the effects of rarely or never doing so, we’ve found that there is little to no performance advantage to automatically resetting a portfolio’s allocation every year. Plus, those who regularly rebalance may be burdening themselves with taxes on gains and any fees generated by the necessary transactions. 2. Know Your Funds’ Distribution Dates to Avoid Taxable Income We mentioned this in the November 22 issue of the Adviser Fund Update, but a review of year-end investing wouldn’t be complete without it: If you are planning to make any additional purchases in 2013, it’s important to know when your funds will be making their December distributions. Why? Taxes. If you buy shares of a fund prior to its “ex-dividend” date (the date on which the fund’s price is reduced by the amount of the expected dividendA cash payment to investors who own stock in the company. or capital gain), you will have to pay taxes on additional distributions on those shares, even though you didn’t own the shares when that income was “earned.” Buying shares just prior to the ex-dividend date is often referred to as “buying the dividend,” and it’s something we avoid whenever possible for our clients. To help you skip this mistake when investing in Fidelity or Vanguard Funds, we published full distribution calendars for both firms in the aforementioned Adviser Fund Update on November 23. 3. Should You Take a Loss? If you have a loss in a fund you own in a taxable account, it may make sense to sell your shares to avoid a distribution, rather than have the distribution add to your tax bill. However, you’ll need to consider the size of the distribution, the size of your loss and any fees that may be incurred in the sale before doing so. If you own the fund in a tax-deferred account, distributions will not affect your taxes. As you consider your tax-planning options, however, be aware of the wash-sale rule. This rule is designed to prevent investors from temporarily selling shares to gain a tax advantage and then repurchasing them a short time later. Under the wash-sale rule, you lose the ability to claim a tax loss if you make a purchase of the same fund (or a substantially similar fund) 30 days prior to or 30 days after a sale. Therefore, if you sold 100 shares of XYZ fund on December 16 at a loss and bought the shares back on January 2, 2014, you could not claim a capital loss. The same rule would apply if you bought shares on November 15 and sold them on December 12. These rules apply whether you made a direct purchase or reinvested a fund distribution. Assuming you abide by the wash-sale rule, harvesting tax losses can be a cost-saving aspect of your investment strategy. You should also be careful not to sell shares of a fund you won’t be able to replace. For example, if a fund is closed to new investors and you sell all of your shares, you won’t be able to buy back in. As always when it comes to tax planning, our best advice is to speak to a trusted tax professional to help you come up with a course of action that works best for you. 4. Consider Opting Out of Automatic Reinvestment We recommend that our clients have their income and capital gains distributions deposited into a money market fund, rather than automatically reinvesting the proceeds in the fund that generated them. This provides the flexibility of reinvesting in the fund at a later date or, as part of a rebalancing strategy, using the cash to add to other funds that may have underperformed recently. 5. Maximize Opportunities for Tax-Deferred Growth It’s a well-known fact that 401(k)s, IRAs and other retirement accounts are a great way to keep assets growing tax-deferred. Therefore, consider contributing the maximum amounts allowable to each account every year. Depending on your employer’s plan, you may be able to defer up to $17,500 in earnings to a 401(k) or 403(b) plan in 2013 (the limit will be the same in 2014). If you will turn 50 before December 31, 2013 and your plan allows it, you can contribute an additional $5,500. For IRAs, the maximum contribution in 2013 and 2014 is $5,500, plus a $1,000 “catch-up contribution” for those who turn 50 before during either calendar year. You have until April 15, 2014 to make your 2013 contributions, but if you do it now, your money can enjoy the benefits of tax-deferral sooner rather than later. 6. Don’t Forget Your Required Minimum Distributions (RMDs) If you have tax-deferred accounts, you will be required to withdraw a minimum percentage each year after reaching a certain age. The RMDA required minimum distribution is the amount of money that must be withdrawn each year from tax-deferred retirement accounts once the beneficiary reaches retirement age (72, according to IRS rules). rule exists to make sure that savings in retirement accounts are actually used for retirement and not just passed on to heirs. You generally have until April 1 of the year following the calendar year in which you turn 70½ to take your first RMD (in subsequent years, there is a December 31 deadline). These rules apply to any retirement account in which you contributed tax-deferred assets or had tax-deferred earnings, such as Traditional IRAs, RolloverThe process of transferring funds from one retirement account to another, typically without incurring a tax. IRAs, SEP-IRAs, 401(k) and 403(b) plans. Note that Roth IRAs are not subject to RMD rules. The RMD is calculated (in most cases) by dividing the adjusted market value of your tax-deferred retirement account as of December 31 of the prior year by an applicable factor taken from the IRS life expectancy tables. If you fail to take your RMD from your retirement account, you will be assessed a penalty equal to 50% of the amount you should have withdrawn, in addition to normal income taxes. These are heavy penalties, so clearly it’s in your best interests to take these RMDs, something we help our clients with each year. 7. Focus and Finish While taxes are one of the last things you may want to think about during the holiday season, taking the time to fine tune your portfolio now may help prevent bigger headaches and tax bills come April. That said, restructuring a portfolio and moving assets in an attempt to avoid distributions can be tricky, which is why we recommend you consult with a professional tax adviser before doing so. About Adviser Investments Adviser Investments operates as an independent, professional wealth management firm with expertise in Fidelity and Vanguard funds, actively managed mutual funds, ETFsA type of security which allows investors to indirectly invest in an underlying basket of financial instruments (these may include stocks, bonds, commodities or other types of instruments). Shares in an ETF are publicly traded on an exchange, and the price of an ETF’s shares will fluctuate throughout the trading day (traditional mutual funds trade only once a day). For example, one popular ETF tracks the companies in the S&P 500, so buying a share of the ETF gets an investor exposure to all 500 companies in the index., fixed-income investing, tactical strategies and financial planning. Our investment professionals focus on helping individual investors, trustsA legal document that functions as an instruction manual to how you want your money managed and spent in your later years as well as how your assets should be distributed after your death. Assets placed in a trust are generally safe from creditors and can be sold by the trustee in short order, avoiding the lengthy and costly probate process., foundations and institutions meet their investment goals. Our minimum account size is $350,000. For the fifth consecutive year, Adviser Investments was named to Barron’s list of the top 100 independent financial advisers nationwide and its list of the top advisory firms in Massachusetts in 2017. We have also been recognized on the Financial Times 300 Top Registered Investment Advisers list in 2014, 2015 and 2016. For more information, please visit www.adviserinvestments.com or call 800-492-6868. Disclaimer: This material is distributed for informational purposes only. The investment ideas and expressions of opinion may contain certain forward-looking statements and should not be viewed as recommendations, personal investment advice or considered an offer to buy or sell specific securities. Data and statistics contained in this report are obtained from what we believe to be reliable sources; however, their accuracy, completeness or reliability cannot be guaranteed. Our statements and opinions are subject to change without notice and should be considered only as part of a diversified portfolio. You may request a free copy of the firm’s Form ADV Part 2, which describes, among other items, risk factors, strategies, affiliations, services offered and fees charged. Past performance is not an indication of future returns. The tax information contained herein is general in nature, is provided for informational purposes only, and should not be construed as legal or tax advice. We do not provide legal or tax advice. Always consult an attorney or tax professional regarding your specific legal or tax situation. The Barron’s rankings consider factors such as assets under management, revenue produced for the firm, regulatory record, quality of practice and philanthropic work. This award does not consider client experience and is not indicative of future performance. Editors at the Financial Times bestowed “elite” status on 300 firms in the U.S., as determined by assets under management, asset growth, longevity, compliance record, industry certifications and online accessibility. © 2018 Adviser Investments, LLC. All Rights Reserved.