November 2023
Some strategies they explore are Donor Advised Funds and Qualified Charitable Distributions. These methods can help individuals save on taxes while supporting philanthropic causes. Health Savings Accounts can also be advantageous as contributions made to an HSA are tax-deductible, funds within an HSA can be invested and growth is tax-free if used for qualified medical expenses, and withdrawals are also tax-free if used for qualified medical expenses. After age 65, you can withdraw funds from your HSA for any expense without penalties. They also briefly review ways to optimize mortgage interest deductions, including cash purchases and refinancing.
Finally, Chris and Kevin address the importance of managing one’s emotions when making investment decisions. Many investors want to avoid losses but end up missing out on better opportunities because they don’t want to take action during market downturns.
Watch previous episodes here:
Ep. 58 Reviewing a Century of Investments Trends: Small vs. Large Companies
Ep. 57 AI, Bias and Financial Decision-Making
Hello, everybody, And thank you for joining us for another episode of THE FINANCIAL COMMUTE. I'm your host, Chris Galeski, joined by Wealth Advisor and Partner Kevin Rex. Kevin, thank you for joining us.
Appreciate you having me.
You know, 2023 has been an interesting year. I know a lot of this podcast is supposed to be, you know, here's what's going on in the world, here's how it affects you and here's what you can do about it. But we had an interesting conversation sort of about year end planning and wealth or life hacks, and we thought we would share some stories that now common things that we see clients do or people do with their money, and that if they did it a little bit differently, they may find, save or make a little bit extra money.
One of the life hacks or wealth hacks, it was around this couple that you know was giving their church on a monthly basis tithing to their church and you know it's great to write that check but this client actually had, you know stock sitting in their account that had depreciated significantly. So it had gone from, you know, $100 a share to, you know, $100 in value to call it 10,000.
So instead of, you know, writing that check to their church every single month, they could take that stock, they could put it into a charitable account called the Donor Advised Fund. And now they have the proceeds in that account that they could give to their charity. And that's a fascinating one to be able to save some money on taxes.
Yeah, it's interesting. I think most of us, whether it's something you're passionate about or you have a family or friends that, hey, can you give to this charity? You just write a check or you give cash. That's the easier way to go about it. But it's not challenging to do what you're saying once you kind of get the pieces set up.
And I like to think of the kind of an example. You have a client that bought it, you know, Apple at $100 just to make it clean. It's gone up to a thousand great investment, just like the client you're talking about. They are locked, they don't want to sell it because they have to pay taxes on it.
So what they do is they just continue to write the check. But if you do put it in the donor advised fund, charity sells with no tax. If you were to sell it on your own, let's just say you were paying 20% capital gains, that thousand becomes 880 pretty quickly. But instead you have that thousand dollars in cash.
You've now given the the shares to the donor advised fund. If you want to still own Apple, now you buyback $1,000 and you have a reset basis or if you wanted to trim it anyways, now you're out of it. You have flexibility. So you're still getting the same result to the charity, but you get more money in your pocket, right?
You're paying less in taxes, which I think is is fabulous. I mean, one of the biggest problems that we see with people in terms of making decisions around money is being tied to the tax impact. Like, I don't want to sell that or I can't get rid of that or I don't want to do anything because I don't want to pay all these taxes.
It's one of those reasons why a 1031 exchange in real estate just means that you're overpaying for that next property that you want to get because you want to avoid the 30 to 40% haircut for for new capital.
DST’s in the same boat. We'd rather put it in a DST, a Delaware statutory trust and pay higher fees and maybe not get as much return. But if we save taxes, it's it's that anchoring effect is we don't want to pay taxes so we'll do anything to avoid it, even if it means we have less in the end, which doesn't make sense conceptually, but we all do it.
It's just hard. It's hard to give more money to the government for a lot of us.
Yeah, You know, I think if we had more say in terms of how they spent that money, maybe a lot of us would be, you know, more inclined to pay more tax. But it is just fascinating how much that tax decision plays a role in how people make decisions around money and risk.
Just when you think about tax savings, I don't know about you. I don't believe that we will pay lower tax rates in the future. Right. When you think about just the deficit and the debt that we've built up. Taxes are the least path of resistance is is going to be higher tax rates. And so I think tax planning, tax mitigation strategies are going to become more and more important for and top of mind, they already are, but even more so in the future.
Yeah, taxes are going to play a much larger role in all of our lives unless, you know, the Fed or the government continues to get away with this whole inflation thing, because that's just a hidden tax in and of itself. And but yes, with as much debt as we have and, you know, some of the things that we need to fund infrastructure and entitlements, I mean, we're going to need more tax revenue because just the interest expense along our debt, not to go off a tangent is outrageous.
We're getting close to the year end. There's a number of different strategies or things that people can take advantage of before the end of the year to kind of help minimize their tax bill and still give to charity, which I know is one of the things that you are extremely passionate about is charitable giving. So talk to us a little bit about qualified charitable distribution.
Yeah, we've we've entered the RMD season, right? Required minimum distributions coming from retirement accounts for those that have reached that age. That age keeps moving. So right now it's 73 unless you've already started prior. So for a lot of clients or a lot of people, they think of taking a required distribution that is going to be a 1099 that they receive.
So it's going to be income to them and they have to pay tax on it and they're like, I don't need this money. I don't necessarily want this money. So rather than taking that that distribution, having it hit your your taxable income and then giving it to charity or doing other things with it is what's called a qualified charitable distribution.
So you can give your R&D directly to a charity. And the beautiful thing about that is it doesn't hit your adjusted gross income, which then impacts Social Security and other other taxes. So there's a bigger benefit to going directly from your retirement account to charity versus going to you as income and then giving to charity because you don't get as much of a deduction across other ways.
So just being thoughtful and mindful that if it's something that you don't need, it can be sometimes more efficient and more impactful by going that route.
Yeah, I mean, especially when it comes to saving money on taxes, some clients don't itemize and so they just take the standard deduction, which qualified charitable distribution can be an easy way to reduce your tax liability by giving the money directly to charity. A couple of things that you need to take note of. I believe the cap is $100,000 and then the 1099 that people receive in the mail, it doesn't have it listed out saying, hey, this is how much you gave directly to charity.
You still have to keep track of that number and tell that to your CPA so that way they can go in and handle the accounting of it.
Absolutely. Yeah. They're kind of hoping you slip up and double pay. Yeah.
Real estate here in Southern California is just one of those fascinating pieces or investments. But, you know, it's a large asset for a lot of people. If it's your primary home, you're capped with certain, you know, limits to be able to write off for deductions or interests. You know, talk to us a little bit about something that you've known for a while and helped advise clients on how to get around that $750,000 cap on the interest exclusion.
Yeah. For most of us, our mortgage will be over 750. As you mentioned, housing costs are very expensive around here. And this this the strategies does not apply to everybody. But most of most of my clients that want to downsize or they want to move, they've already locked in their mortgage rate at two and a half or 3%.
And they're looking at getting a new home at 7 to 8%. It just they don't want to move because of that burden. And so one thing you can consider is if you actually purchase your home for all cash and then within a reasonable amount of time, you refinance, pull cash out. Let's just say you pull out 60% and take that cash and put it directly into an investment account.
What happens is the CPA's able to qualify that interest as which, you know, you'd be paying on the mortgage, but they're able to reclassify it as investment interest and there is no cap on investment interest. And so you're not beholden to the $750,000 limit. You pulled out $2 million. You're writing off the interest across that. So even if you're mortgage is, call it 8%, if you're getting a tax deduction on all of that interest, your effective borrowing costs could be reduced down to about 4%, making it a little bit more, you know, stomachable to move into your dream retirement home or downsize it or relocate next to a family member because you're not paying
8% interest when it's all said and done, you're actually only paying 4. So it doesn't apply to everybody. You have to have all cash. You have to have your CPA on board that is aware and comfortable reclassifying some of those things. But rather than being locked in, stuck in your home because of where interest rates are today, just some that consider if it makes sense.
Yeah, I was I was talking with a, you know, loan officer at Wells Fargo the other day and she mentioned that they have a program where it helps you buy all cash and then just do an instant refinance as long as it's done within 90 days of your closing, they can just kind of get it done. And it's pretty clean and simple to where it's not classified as a refinance, but it essentially accomplishes the same thing, which is fascinating.
It's one of those little tips and tricks that, you know, some people not everybody's aware of. Some people can take advantage of it and it helps you kind of get around some of those annoying limits around deductions and interest expense when it comes to, hey, I would like to pay less taxes. That's one of the strategies.
Yeah. And ideally you're paying all cash, so maybe you get a better offer on. You can get a lower offer on the home. You can be at the top of the the competitive battle for that property. Right. Because sellers typically like all cash because of the certainty around closing versus the issues that may come with the financing.
Sure. I mean, the seller's always getting a check at the end no matter what. But I guess all cash just feels a little bit better.
But you have I mean, when you think about borrowing all of the red tape and things that can go wrong when you're dealing with a bank and we've all we've gotten loans and it's like they are they're asking for your blood type, right? They go through everything. And so if you can eliminate some of those possible issues as a seller, you're like, okay, I know they have the money I've seen in the account versus the bank saying we can close on time, Can we trust them or is it is absolutely silly. I mean, we were going through the process of buying a property a few years ago and then I had a lease come due with my car. And so we just did a purchase at the end of the lease. My lease payment went from, call it, $350 a month to a car payment of 230 because we were buying it out.
And so even though my expense was less, it was considered a new loan and almost kind of screwed up the whole transaction. And it was it was ridiculous.
All of that. And you tell those stories for a whole nother session.
But health savings accounts are one of those nuances that, you know, if you are in a high deductible plan, they just offer some tremendous advantages. You get a tax deduction upfront, you can leave the money in there and grow it tax free, and then you can take it out tax free for qualified medical expenses. I just think it's one of those accounts has more tax advantages than any other.
People often don't think about them. Top of mind. But you know, if you work for a company and you've got your 401k, you definitely want to make sure that you're giving that those free dollars in the company match.
Yeah, get your match first.
But pay attention to whether or not you have a health savings account. You're eligible to contribute to it and then trying to find ways to to maximize that contribution. Because if you don't use it for a normal medical staff at the age of 65, after the age of 65, you can take it out and just pay tax on it like a normal retirement.
You can roll it into your IRA. That point, I think what happens is people get HSAs and FSAs a little confused. So with a flexible spending account, you have to use it over the course of the year or you lose it. There's a small remainder that you can roll over, but for the most part you have to spend it all.
That's not the case with an HSA, and HSA is essentially a long term investment account for retirement or medical use if needed.
To your point, my order of operation, I think you agree is get your match from your employer plan. Yeah, we always want that.
Free money, get the free money, maximize your HSA and then go back and continue to add to that plan. If you're not maximizing, you know, everything but being strategic again, saving in taxes and having more more money in the future for medical and then retirement, as it's called, those those dollars are golden.
I love it. Kevin, what other wealth hacks or life hacks can you think of that you think would be valuable for for our listener?
I don't know if it's a hack, but I had a situation the other day where I had a client. They have two stock positions that have gotten beat up pretty badly, so they have substantial losses and we're looking at those positions and I'm saying, okay, well, what do you want to do with these? Their gut feeling is, well, we want to hold on to them until they get back to even and then we'll sell them and move into something else.
And as much as we all understand that, you can't really anchor to the costs that you purchase and that everything in the past doesn't matter anymore, now it's how can we maximize your wealth going forward? Even as professionals, we still get stuck on You don't want to take a loss. You don't want to kind of admit failure to some degree, even though it isn't.
And so I had this discussion around, okay, well, if do you believe that that position's going to get you back to even faster or some of these other options that maybe have more consistency, let’s say private lending giving us nine 10%. If we get that consistency, you think you'll get back to even faster. And they thought through. They said I actually have more conviction in the private lending strategies and then this happened to be in a taxable account.
So I'm like, well, if you sell this, you get to capture the loss, offset some you know, we're talking about taxes, offset gains in other areas, and you're going to be able to move the funds into a position that you have higher conviction over the short term or even long term to get you back to even faster. Doesn't that make sense?
And, of course, the answer is yes. But I think just going through the exercise of do I believe more strongly in this position or do I have conviction in other things because we do anchor, we don't want to sell at a loss. But sometimes the best thing to do is, hey, let's get a little victory by capturing the loss, but then moving things into a higher conviction area.
So, yeah, anchoring is one of those biases that creeps in all over the place. We talked about in a couple of different areas today. Yeah, one with taxes, like, I don't want to make that decision because I don't want to pay the taxes. And the other one is like, well, you know, I don't want to lose. I want to wait till I get back to even.
And that can be very dangerous. If you asked just about any investment professional on the planet that's responsible for making decisions on investments for clients, and you ask them this question, how often do you think you should do tax loss harvesting, which is realize losses to offset gains? And most people would say as much and as often as possible, because by realizing those losses you've got a credit in your pocket that's going to help you save on taxes later on.
But it is it's very difficult to see something like, I don't know, Disney at $185 a share a year and a half ago, and it's down at 85 now. Today, you might be sitting there saying, I just want to wait till it gets back. It may never get there. Another question. Somebody may may need to ask themselves and say, if I was given that cash today, would I buy that investment at that price?
Your answer is either yes or no. If it's yes, then you probably own that for the right reasons. If it's no you should continue to go down that exercise value that you went through to look at other options.
With something like Disney. Does it make sense to even miss out on the market for maybe 31 days, take that loss and then if you want to get back into it, you can. But as you mentioned, you have that that loss saved for for future gains and even offset some ordinary income down the road as well.
So as much as it can be painful to take losses or pay taxes to the government, sometimes it's necessary to do it so that way we can properly manage the risks that we're taking on.
So one quick thing that just came to me, we don't want to take losses because it means we're down, but we don't want to take gains because it means we're up. So whether we're up or down, there's always still something anchoring us to not take action. So our job is to help take action or inaction when that's the appropriate exercise as well.
But it's just yeah, I was thinking investing is a it's an interesting world.
It really is. And, you know, the feelings and emotions that we have about money, you know, play a role to you. And I talk about it a lot. We feel so lucky to have the jobs that we do, especially giving advice to people around money. The thing that causes some of the most fear and pain and anxiety, but also some of the most happiness and feelings of freedom.
Yeah, So it's so much fun and we have a great time every single day. So if you're you're open to having discussions with Kevin, myself or one of the other advisors, we'd love to talk to you guys about money and find ways that we can help optimize it.
Thanks, Chris.
Disclosure: Information presented herein is for illustrative and educational purposes only and is not intended to constitute investment advice. The views and opinions expressed by the speakers are as of the date of the recording and are subject to change. These views are not intended as a recommendation to buy or sell any securities, and should not be relied on as financial, legal or tax advice. These views should not be relied on for purposes of avoiding any federal tax penalties under the Internal Revenue Code. You are encouraged to seek tax advice from your attorney, finance professional or accountant before implementing any transactions and/or strategies concerning your finances. Morton Wealth makes no representation that the strategies described are suitable or appropriate for any person.
