We’ve done better than most investors since the market peak in March 2000, including the most recent market decline. Even so, you still might own some underwater investments, especially in your Core Portfolio. For example, American Century Income & Growth has declined with the general market.
These underwater investments can be used productively to minimize their impact and hasten the recovery of your wealth. Here are a few strategies to consider now.
For a conversion to make sense, you have to avoid distributions from the converted account for years, usually 10 years or more. Time and tax deferral allow compound returns to make up for the tax paid on the conversion. For the conversion to make sense, the taxes should be paid from other sources instead of from the IRA.
If the account value has declined, it will cost less to do the conversion than in the past. In addition, some people who could not convert in the past because their income was too high might be eligible this year because of capital losses or reduced income.
You can convert now and change your mind later. You have until April 15 to decide whether to go ahead with the conversion or save the tax dollars. In addition, you still can change your mind through next Oct. 15. Just recharacterize the account by then and the IRS will return the taxes you paid.
When you own mutual funds, a losing fund investment can be sold and a competing fund purchased at the same time. Different mutual funds are not considered to be substantially identical, even if they have similar investment styles. By purchasing a competing fund at the same time, you are ensured of not being out of the market and missing any sudden surge that might occur after your sale of the first fund.
The other method is to wait at least 31 days after the sale and re-purchase the fund that was sold. You would want to do this if you really prefer owning the specific fund for the long term. You take the risk, however, that the market will turnaround during the waiting period and you will miss significant gains.
Consider gifts even if you have exceeded the tax-free amount for the year. You still have a lifetime estate and gift tax credit that allows additional tax free gifts either now or through your will that can total up to $1,000,000. This will increase in the coming years. It makes sense to use up part of this credit now while asset prices are down. If you continue to hold the assets and they appreciate, more of your lifetime credit will be used to give the same assets.
Of course, be careful not to give more wealth than you can afford to do without. The first priority is to maintain your standard of living. Estate planning and tax reduction come after that.