Tax reform: 7 essential strategies for financial advisers

While advisers face the difficult task of analyzing the law's impact, they will also have a significant opportunity to prove their value by implementing money-saving strategies for clients as well as their own businesses.

Jan 13, 2018 @ 6:00 am

By Greg Iacurci

There's both good news and bad for financial advisers in the new tax law: While advisers face the difficult task of analyzing the law's impact, they will also have a significant opportunity to prove their value by implementing money-saving strategies for clients as well as their own businesses.

Tax experts say it could take months or years for the entire breadth of strategies to surface, but here are several that advisers may consider in 2018 and beyond.


The law doubles the estate and gift tax exemption, to roughly $11 million for individuals, but it's scheduled be cut to around $5.5 million in eight years. That may have some ultra-wealthy clients nervous; if they were to die in 2026, they would only be able to pass on half as much wealth to heirs on a tax-free basis. There is something they can do now to hedge against that eventuality, though.

"Really rich people should consider gifting," said Charlie Douglas, director of wealth planning at Cedar Rowe Partners.

The new law allows individuals to gift up to $11.2 million tax-free during their lifetimes. They can give their wealth to family members ahead of 2026 to ensure that this amount, plus any future growth, is transferred tax-free.

Mr. Douglas recommends making the gift to a spousal lifetime access trust, which often gives the donor's spouse control of the trust's assets as trustee and makes the spouse a beneficiary along with the children. The trust is tax-favored and provides asset protection as well as continued access to the funds (albeit indirectly) through the spouse.

"You're typically not going to make large gifts outright," Mr. Douglas said. "The No. 1 thing people will regularly consider using is a SLAT if they're using their gift tax exemption."


Advisers are already forecasting that the provision related to pass-through entities will be one of the hallmarks of the new tax law, signed by President Donald J. Trump on Dec. 22, given the numerous planning opportunities it presents.

Because the tax law gives a 20% deduction on taxable income to qualifying pass-through businesses, advisers are calculating how they and their clients could be eligible for the savings.

"I think that's going to be the monster," Leon LaBrecque, managing partner at LJPR Financial Advisors, said of pass-through strategies. "A lot of us are going to try to find ways to move things around."

Pass-throughs are businesses such as partnerships, sole proprietorships and S corporations that pay taxes at their owners' individual tax rates. Most businesses in the U.S., including those of financial advisers, are structured as pass-throughs.

Michael Kitces, partner and director of research at Pinnacle Advisory Group, said in a recent blog post about the law that the "greatest tax-planning opportunity" related to the pass-through deduction lies in self-employed individuals for the first time having a lower tax rate than those doing similar work but classified as employees.

"For many workers, this will introduce a temptation to recharacterize their working relationship from employee to independent contractor, or otherwise form separate business entities that contract back to their employer for their prior work," Mr. Kitces wrote.

The tax savings could be, for example, the final impetus advisers need to move from a wirehouse brokerage, where advisers are considered employees, to the independent channel, said Tim Steffen, director of advanced planning in the private at Robert W. Baird & Co.

Many service businesses, including those of financial advisers and brokers, are completely ineligible for the pass-through deduction if taxable income exceeds a certain threshold ($207,500 for single filers, $415,000 for couples). So large advisory firms may consider structuring their businesses as C corporations, which received a tax-rate cut to 21% (from 35%) under the new law, in order to get a tax cut, according to experts.

Further, income limitations for partnerships, limited liability companies and S corporations are calculated individually, based on each partner or owner's share — meaning some family businesses may benefit from distributing ownership to multiple family members to remain below the income threshold, according to Mr. Kitces.

Caveats: These strategies bring some considerations beyond taxes into play, and advisers should plan accordingly. The pass-through rules are temporary and will expire after 2025 unless Congress extends them or makes them permanent.


The law roughly doubles the standard deduction to $12,000 for individuals and $24,000 for couples. But the personal exemption goes away, and some popular tax deductions, such as the one for miscellaneous expenses like investment advisory fees, also were eliminated. Others, like the deduction for state and local taxes, were severely curtailed.

Such changes mean many fewer clients will itemize their deductions. One way to benefit from itemizing going forward is via the "bunching" of deductions, especially charitable contributions, said Baird's Mr. Steffen.

The strategy alternates between itemizing and taking the standard deduction, by grouping a client's deductions into one tax year and minimizing them in off years, Mr. Steffen said.

For example, a married couple can use a donor-advised fund to front-load two years' worth of charitable contributions — $30,000, let's say — into 2018 and pay out those contributions over time. This couple's itemized deduction for charitable contributions would exceed the standard deduction by $6,000 in 2018.

The couple wouldn't get the same tax benefit from contributing $15,000 in both 2018 and 2019, because the contributions don't exceed the standard deduction.


The law repeals miscellaneous itemized deductions, such as those for tax preparation, investment advisory and some trustee fees. In essence, that means tax preparation, trustees and investment advice are now more expensive since the costs cannot be deducted, said Jamie Hopkins, an associate professor of taxation at The American College of Financial Services.

Advisers may want to consider shifting their fees to be paid by a client's pretax individual retirement account, in essence making the fee deductible because the IRA contribution was deductible, Mr. Hopkins said.

However, there are some limitations — IRAs, for example, can only pay their own advisory fees, and not fees for other accounts, Mr. Kitces said.

"That means a lot of work (at least for some advisers) in adjusting their billing processes," he added.

Caveat:Pulling straight from a pretax IRA to pay advisory fees doesn't count toward a client's required minimum distribution.


Clients are no longer able to recharacterize a Roth conversion. So going forward, a client cannot undo a Roth conversion (in which a client converts a pretax IRA to a Roth IRA and pays the associated tax).

"If someone wants to convert to a Roth, they better make sure it's something they want to do because they won't be able to change their mind," said Matt Sommer, who leads the wealth adviser services team at Janus Henderson.

The "old paradigm" was to do a Roth conversion as early in the year as possible, because the client could always unwind it, said Jeffrey Levine, CEO and director of financial planning at Blueprint Wealth Alliance.

Now it's likely better to wait until year's end, when clients have a more accurate picture of their income and deductions, Mr. Levine said. That's especially true for business owners, whose income can fluctuate widely from year to year, he added.

Caveat:Clients can still recharacterize Roth conversions made in 2017. They have until Oct. 15 to do so


The law reduces the threshold to deduct unreimbursed medical expenses — taxpayers could previously deduct costs exceeding 10% of their adjusted gross income, but can now do so for those exceeding 7.5% of AGI.

However, that reduction is temporary — it only applies to expenses incurred in 2018 (and 2017), after which it reverts to 10%. So clients who know they'll need to pay costly medical bills in the near future, such as for back surgery, Lasik eye surgery or braces for children, should consider doing so by the end of this year for a bigger tax break, Mr. Levine said.

The deduction also, in certain circumstances, covers things like home renovations for medical purposes — the widening of hallways and installation of chairlifts, for example — which may benefit aging baby boomers, Mr. Levine said.


529 plans,which previously only covered college costs, now may also be used to cover private elementary and secondary school expenses, to the tune of $10,000 in tax-free distributions per year and per child.

This makes 529 plans more competitive with Coverdell Education Savings Accounts, and should encourage additional contributions to 529 plans as a result, Mr. Hopkins said.

(More: By the numbers: Section 529 college savings plans)

Coverdell accounts, which have an annual contribution limit of $2,000 per beneficiary, were previously the only other vehicle offering tax-free earnings growth and tax-free withdrawals for private K-12 education expenses.

Further, some clients could benefit from a state tax deduction for 529 contributions. New York state, for example, provides a dollar-for-dollar deduction up to $10,000 to married couples for 529 contributions.

So clients who previously may not have been saving money in a 529 plan, perhaps because they didn't have extra money to save for education beyond the tuition for a child's private elementary school, can consider contributing to a 529 and, shortly thereafter, taking a 529 distribution to pay K-12 tuition. They'd get a state tax deduction in the process, simply for using the 529 as a sort of "middle man," Mr. Levine said.

However, not all states provide such a deduction.


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