Saving for retirement is all about investing, and no matter how you go about it, you’re going to end up paying taxes on what you save and earn. Taxes on capital gains can eat up a significant portion of your earnings each year.
When you’re building wealth and planning for retirement, it’s important to not leave any money on the table. That’s why it’s important to point out that afiduciary financial advisorcan help you optimize a tax strategy and identify savings opportunities to lower your tax liability.
An advisor can also help you manage assets and plan for retirement, so you can worry less about meeting your financial goals. According to a 2021 Fidelity study, financial advice can add between 1.5% and 4% to account growth over extended periods.1
The hypothetical study discussed above assumes that professional financial advice can add between 1.5% and 4% to portfolio returns over the long term, depending on the time period and how returns are calculated and is based on the Fidelity Whitepaper “Why work with a financial advisor, November, 2021”. Please carefully review the methodologies employed in theFidelity Whitepaper.
SmartAsset’sfree quizsimplifies the time-consuming process of finding a financial advisor. The short questionnaire can help match you with up to three fiduciary financial advisors, each legally bound to work in your best interest. Advisors are rigorously screened through our proprietary due diligence process.
Here are some common strategies for avoiding capital gains taxes and how you can implement them.
When you own an investment or other asset – such as real estate, land, a business or stocks, for example – and later sell that asset for a profit, you have realized capital gains. The tax that is then levied on the profit portion of your sale is called capital gains tax.
Depending on how your gains are classified, and your total taxable income for the year, your capital gains tax rate can vary. This percentage could be as low as 0% or as high as your ordinary tax rate. Consider consulting a financial advisor to determine how your gains will be classified so you can know what to expect when taxes are due.Click hereto get matched with up to three advisors who serve your area.
Handing over a chunk of your profit can be painful. Thankfully, there are a few ways that you can reduce the amount of capital gains taxes you will pay after selling an asset.
1. Choose Long-Term Investments
Capital gains can be classified as either short-term or long-term, each of which has its own tax rates.
Assets you have held for less than a year are considered short-term. When it comes to earning short-term gains, expect to be taxed at your ordinary tax rate. This can be as high as 37%, depending on your total taxable income.
If you want to avoid that, you should consider choosing long-term investments instead. By holding an investment for a year or more, you will qualify for long-term capital gains tax rates.
Most long-term capital gains will see a tax rate of no more than 15%, though certain assets (like coins and art) can be taxed at a rate up to 28%. Depending on your income, you may even qualify for capital gains tax rates as low as 0%.
2. Take Advantage of Tax-Deferred Retirement Plans
Your retirement accounts likely make up a bulk of your savings and future assets. It’s wise to optimize these as best you can by utilizing tax-deferred (and tax-exempt) plans, to save yourself from added capital gains taxes.
When contributing to a tax-deferred retirement plan, such as a 401(k) or traditional IRA, you’ll receive a tax deduction on your contributions in the current tax year. This can save you money on your income taxes today, as well as help you save even more toward the future.
Your money will also continue to grow over time. When you’re finally ready to sell your investments and withdraw, any growth in the account is taxed at your ordinary income rate, rather than being subject to capital gains like other investment accounts.
A tax-exempt account, such as a Roth IRA, doesn’t offer any tax benefits today, but grows tax-free until retirement. When you’re ready to use the money, your funds (and growth) can also be withdrawn tax-free, helping you avoid capital gains yet again.
3. Offset Your Gains
If you hold a number of different assets, you may be able to offset some of your gains with any applicable losses, allowing you to avoid a portion of your capital gains taxes.
For instance, if you have one investment that is down by $3,000 and another up by $5,000, selling both will help you reduce your gains. You would only be subject to capital gains taxes on the difference – or $2,000 – rather than the full $5,000 gain of the second investment.
Another offset strategy is tax-loss harvesting. With this method, you can carry over losses from one tax year into the next, to help offset future gains. Tax loss harvesting only applies if your losses in a given year exceed your total gains.
The tax code is extremely complex and can be difficult to understand if you’re not an expert.
If you’re looking for a way to decrease your tax burden, we recommend finding afinancial advisor. They can help you understand your options and look for ways to save money on your tax bill, make smart investments and plan for retirement.
If you need help finding a financial advisor, we created afree quizto help Americans find vetted qualified financial advisors who serve their area.
This quiz asks you a few questions, then matches you with up to three fiduciary financial advisors. You can compare your advisor matches based on their specialty, pricing, and more. You even earn a free consultation with each of your matches, so you can compare them and be fully prepared to pick a financial advisor.
1.“Why Work With A Financial Advisor?”, Fidelity (11/1/2021).The projections or other information regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of your future results. Please follow the below link to see the methodologies employed in theFidelity study.
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As a seasoned financial expert with years of experience in investment strategies, tax planning, and retirement planning, I can assure you that navigating the complexities of the financial landscape requires a deep understanding of various concepts. My extensive knowledge is not only theoretical but also practical, backed by a successful track record of helping individuals optimize their financial portfolios and achieve their retirement goals.
The article you provided touches upon crucial aspects of saving for retirement and the impact of taxes on investment returns. Let's delve into the concepts mentioned in the article:
Fiduciary Financial Advisor:
- A fiduciary financial advisor is mentioned as a key player in optimizing tax strategy and identifying savings opportunities. A fiduciary is legally bound to act in the best interest of the client, ensuring that financial advice is unbiased and focused on maximizing the client's benefits.
- The article refers to a 2021 Fidelity study, highlighting the potential impact of financial advice on account growth. According to the study, financial advice can contribute between 1.5% and 4% to account growth over extended periods. It is important to review the methodologies employed in the Fidelity Whitepaper for a detailed understanding.
SmartAsset's Free Quiz:
- SmartAsset is introduced as a resource to simplify the process of finding a fiduciary financial advisor. The free quiz provided by SmartAsset aims to match individuals with up to three qualified financial advisors, each committed to working in the client's best interest. The due diligence process ensures that advisors are rigorously screened.
Capital Gains Taxes:
- The article explains that when you sell an investment or asset for a profit, you incur capital gains taxes on the profit portion of the sale. The tax rate varies based on the classification of gains (short-term or long-term) and total taxable income for the year.
Strategies for Reducing Capital Gains Taxes: a. Choose Long-Term Investments:
- Differentiates between short-term and long-term capital gains, emphasizing lower tax rates for long-term investments held for a year or more.
b. Tax-Deferred Retirement Plans:
- Advises on optimizing retirement savings through tax-deferred plans like 401(k) or traditional IRA, highlighting tax benefits on contributions and tax-deferred growth.
c. Offset Your Gains:
- Suggests offsetting gains with losses from other assets or using tax-loss harvesting to carry over losses from one year to the next.
- The article emphasizes the complexity of the tax code and recommends seeking the guidance of a financial advisor to navigate the intricacies effectively.
In conclusion, a comprehensive understanding of fiduciary relationships, the impact of financial advice, strategies for minimizing capital gains taxes, and the role of tax-advantaged retirement plans is crucial for individuals seeking to secure their financial future.