Asset location can be key for successful wealth management

Posted by Pete Muckley, VP of Marketing on February 17, 2016

For many clients and their advisors, taxes are a critical part of the wealth management equation. By reducing taxes, advisors can help clients enhance performance and keep more money compounding in their accounts to pursue long-term goals.

Asset location is key to reducing taxes in a client’s portfolio and enhancing the tax efficiency of the client’s investments. For clients in high tax brackets and with high incomes, the savings and subsequent wealth created by asset location can be substantial.

By locating certain assets in tax-advantaged investment vehicles, advisors can help clients dramatically reduce taxes over time and reliably enhance overall performance by 100 basis points or more.

The asset location decision should take into consideration these factors:

  • The tax efficiency of assets. Do they generate long-term capital gains, short-term capital gains or ordinary income? Examples of tax-efficient assets include buy and hold equities, index funds, ETFs, and tax-exempt municipal bonds. These assets typically would be located in a taxable account. Examples of tax-inefficient assets include actively-managed strategies, tactically-managed investments, fixed-income investments, REITs, liquid alts and commodities. These assets would typically benefit from being located in tax-deferred vehicles.
  • The management style of assets. Are the assets managed in a passive style or an active style? Actively managed strategies that involve active trading and higher levels of capital gains would benefit from location in a tax-deferred environment whereas passive strategies may work best in a taxable account.
  • The client profile. This includes the client’s age, time horizon, tax bracket, level of taxable income, liquidity needs and estate planning needs.

For tax-deferred location of assets, advisors will typically want to encourage the client to max out contributions to qualified plans such as 401(k)s, 403(b)s, IRAs and 529 Plans. But for high-net-worth clients in high tax brackets, these plans can quickly become maxed out. Clients will need other solutions to achieve higher levels of tax deferral.

Variable annuities may make sense as a valuable tool for tax-deferred asset location once qualified plans are maxed out. But many fee-based advisors balk at the idea of traditional variable annuities because they typically have high commissions, high M&E expenses and costly surrender charges. These expenses could cost investors 300 basis points or more – effectively wiping out the value of the tax deferral.

To maximize the value of tax deferral, a variable annuity must be low cost. Fortunately, the industry has developed a new generation of investment-only variable annuities (IOVAs) designed as a low-cost tax-deferred investing solution. This helps to maximize the value of the tax deferral and enables clients to keep more of their money compounding in their accounts free of immediate taxes.

Annuity rescue

Clients and prospects may already have traditional variable annuities in place with high annual expenses. If so, it may be prudent to review the benefits of transitioning these assets to a flat-fee, investment-only variable annuity.

Advisors can compare the expenses (and benefits) of the two variable annuity options with clients and help determine which solution makes the most sense in a given situation. Typically, advisors will be able to easily demonstrate to clients the thousands of dollars in savings per year of a low-cost annuity. Then with a simple, tax-free 1035 exchange, advisors and their clients can transition the assets.

Investment capabilities are key

Another key to helping clients best pursue their long-term goals, is to make sure the investment-only variable annuity provides a broad range of underlying investment choices. Having an extensive line-up of underlying investments can provide more strategies for allocating assets inside the variable annuity. An IOVA with a robust level of investment options can help advisors truly manage the client’s assets, enhance diversification and maximize long-term investment performance.

Ideally, the IOVA provides the ability to include non-correlated asset classes, more hybrid investments and more liquid alternative funds that employ strategies for managing volatility such as those favored by hedge funds and elite institutional investors.

One solution to look at

An example of an innovative flat-fee, investment-only variable annuity is Monument Advisor from Jefferson National. Monument Advisor has a low flat-fee of just $20 a month or $240 a year, regardless of account size.

Designed exclusively for RIAs and fee-based advisors, Monument Advisor has:

  • No commissions
  • No M&E expenses
  • No expensive riders
  • No surrender charges
  • Robust investment choices (more than 350 underlying mutual funds)

At just $20 a month, an investment-only variable annuity like Monument Advisor can help optimize the full benefit of tax deferral for clients.

Managing assets within the IOVA

Advisors can enhance the benefits of a Monument Advisor variable annuity by setting up and managing the underlying models on Trust Company of America’s robust and more flexible platform. By using TCA’s industry leading technology, advisors can manage all of their client portfolios in one place – with the tools and efficiencies they’ve come to depend on.

TCA’s platform allows advisors to implement their proprietary investment strategies, design custom portfolio models and use multiple managers or multiple models within a single variable annuity account – giving them more control and more efficiency.

It’s fast and simple to make transfers and rebalance portfolios, buy and sell investment and perform mass transactions or individual transactions in real-time using the TCA platform. With this high level of flexibility, advisors can develop and manage any investment strategy to satisfy any risk profile.

And because advisors are able to take their advisory fee from the client’s other cash accounts at TCA, the client’s tax-deferred account can remain untouched by fees. This helps save annual 1099 headaches and enables the account to maximize growth and tax deferral.

Using TCA’s technology for managing assets within Monument Advisor accounts enables advisors to:

  • Manage multiple strategies in a single account
  • Trade strategies (including multi-account trades) online in a highly efficient manner
  • Develop customized asset allocation models linked directly to clients’ accounts
  • Manage all client portfolios in one place
  • Take fees from non-VA accounts (as a non-taxable, non-1099 event) to maximize growth and tax deferral within the VA

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