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Where to Direct Your Excess Income

Man wonders where to direct his surplus assets

4 Tips to Help Direct Surplus Assets

You’ve maxed out your retirement accounts, paid off your debts, covered your daily living expenses, invested for the future and saved for a child’s or grandchild’s college education — and now you have a surplus of assets you’re not sure what to do with. Congratulations! You’ve achieved what many people refer to as “financial independence.”

Although most people would consider a surplus of assets a good problem to have, it can be challenging to know what to do once you have your financial bases covered. Before you go any further, determine what would give you most personal satisfaction.

“Knowing others is intelligence; knowing yourself is true wisdom.” – Lao Tzu First      

Ask yourself this: if you only had limited time on this earth, is there anything else you’d like to do? Answers to this question are vastly different. Some people receive the most satisfaction by helping others; if that’s true for you, help someone you know or care about. If there are people you’d wish you had spent more time with, book a trip and visit them. Some families love spending time together, but not all family members are able to afford the cost of lodging and travel. Many of my clients shared their best memories involved taking their whole family on a trip. For some, satisfaction comes from visiting remote places — jungles in Africa, Mount Everest, Antarctica, etc. One thing is certain: your time is limited. If you have achieved financial independence, make sure you enjoy your life to the fullest and experience the most happiness possible.

Following are four strategies to help direct your surplus assets.

#1 – Make charitable donations.

Many high-net-worth investors seek opportunities to support charitable causes important to them. Not only are charitable contributions a great way to give back to the causes that matter to you but they can also help limit your tax exposure.

There are many ways to donate to charities, each with varying tax implications. Popular strategies for high-net-worth families include:

  • Donating appreciated stock – This simple charitable giving strategy can have a big impact on your tax exposure. Instead of donating cash, consider making an in-kind donation of appreciated stocks.

    The best way to illustrate the benefit of this approach is with an example. Let’s say you decide to donate $5,000 in appreciated stock to your favorite charity. Your cost basis for the stock is $1,000. If you sell the stock for $5,000 and donate the proceeds, you’ll owe taxes on the $4,000 gain. At a 20% capital gains tax rate, you’ll need to pay $800 in taxes following the sale (20% of $4,000), and $4,200 will be left to donate to the charity. Assuming you itemize your taxes, you would be eligible to deduct $4,200 in charitable donations for the transaction.

    On the other hand, if you were to make an in-kind transfer of the appreciated stock directly to the charitable organization, you’d avoid triggering a taxable event and the charity would receive the entire $5,000 value. Because charitable organizations are tax-exempt, the charity could then sell the stock without paying taxes on the transaction. As a result, you could claim a charitable deduction of $5,000 on your itemized tax return, and the charity would receive the full $5,000 market value of the stock. This is clearly a win-win for both you and the cause you wish to support!

  • Establishing a donor-advised fund (DAF) – A DAF is a 501(c)(3) charitable fund that holds irrevocable charitable gifts and provides an effective way to both lower your tax exposure and optimize your charitable impact. As the donor, you retain control over the timing of charitable distributions as well as the qualified charitable organizations to which donations are made.

    One of the main benefits of establishing a DAF is that you can make a large contribution of cash, securities or other assets (including complex assets, such as real estate or ownership in a business) during a year in which your income is higher than normal, then you can distribute the assets to charities over several years. This practice allows you to take a charitable deduction from your itemized tax return in the year you made the donation while supporting charities over time. Doing so can be an especially effective strategy for lowering your taxable income during years of particularly high income, such as when you receive a bonus, equity vesting or proceeds from a business sale.

  • Making qualified charitable distributions (QCDs) – Retired high-net-worth individuals often face the challenge of managing the tax consequences of required minimum distributions (RMDs). One way to limit your tax exposure is by donating a portion of your RMD directly to a charity.

    The IRS allows individuals ages 70 ½ and older to donate up to $105,000 from a tax-deferred retirement account to a charity with no negative tax impact. There are a few requirements you must meet in order for your charitable donation to count as a QCD, so it’s important to work with your wealth manager to make sure you qualify.

#2 – Consider private investments.

Once you’ve established a diversified investment portfolio, you may wish to consider further diversification by adding private investments to the mix. For every publicly traded asset, there’s a similar private asset. Since the 1990s, America has lost half of its public companies — all while the economy grew nearly $20 trillion and population increased by 70 million people.[1] This equates to a much smaller source for ideas, thus the need to expand our investment opportunity set to private markets. Currently there’s approximately 4,000 U.S. public companies and 7,000,000 private companies across many different sectors in the United States.[2] A large majority of these companies (87%) drive a revenue of $100 million or more.[3] Private markets give investors access to the real economy in a way that’s typically not highly correlated with the more traditional assets investors may already have in their portfolios. There are four pillars within private markets that serve a purpose in a well- diversified portfolio: private equity, private credit, private real estate and private infrastructure.

There are several potential benefits of private investments:

  • Attractive returns: Private investments tend to offer the potential for higher returns than the public market.
  • Increased diversification: Private investments offer access to companies and transactions that aren’t generally available in the public markets or are only available to select group of institutional investors.
  • Reduced volatility: Private investments have historically demonstrated lower drawdowns than public markets in certain times of market stress, offering the potential for a reduction in overall portfolio volatility.

The disadvantages of private investments include:

  • Illiquidity: There’s no secondary market for private investments (i.e., you have a very limited opportunity to dispose of the investment). Most private investments will have lockup periods ranging from one year to a decade or more.
  • Transparency:  Unlike public companies, private companies don’t allow public access to their balance sheet. Private investments are subject to limited regulations compared to public investments. This contrasts notably with traditional assets, such as stocks and bonds, which can be traded directly on exchanges or owned in funds and are relatively liquid, transparent and regulated.
  • High fees: Management fees can range from about 1% to 1.75% plus carried interest of 5% to 20% (an additional, performance-based fee), typically after a preferred return of 6% to 8%.

Your wealth manager can help you determine whether a private investment makes sense for you given your personal financial situation.

#3 – Reevaluate your insurance coverage.

If you’re not properly insured, your family’s security could be at risk should something unexpected occur. That’s why it’s important to regularly review your insurance coverage to help ensure you’re properly protecting all you’ve worked so hard to build. As your wealth grows, so does your risk. Each year you should re-evaluate your current net worth and insurance coverage.

In addition to basic coverage, such as health insurance, homeowners insurance, car insurance, etc., it may make sense to use some of your excess assets to purchase an umbrella insurance policy. Umbrella insurance provides additional protection above the limits of your primary insurance coverage. This coverage can be particularly important as your wealth grows, as it can help protect your assets from lawsuits and other unexpected events.

#4 – Building Wealth for Loved Ones

If you have surplus assets you wish to pass down to your loved ones following your death, it may make sense to establish an irrevocable trust or a special needs trust.

  • Irrevocable trust – If you are certain you wish to gift assets to loved ones now without disincentivizing them to continue to pursue their professional and personal goals, you can start working on securing their financial future by setting up an irrevocable trust for them. As its name suggests, by directing portion of your assets into an irrevocable trust, you’re irrevocably parting with your assets. By now I’m certain you wonder if I’ve lost my mind, but one of the best parts of this gift is that you get to stipulate many conditions that the said individual would need to meet in order to gain access to the trust assets.

    Famous basketball player Shaquille O’Neal once said, “In order to get my cheese, you have to present me with two degrees.” This is the type of stipulation you can include in your irrevocable trust document (or any iteration of it that fits you). While this particular stipulation may be too extreme for your liking, you can work with your attorney and wealth manager to build the plan that fits you and your loved ones the best. These assets can be protected from creditors and grow outside of your estate while you’re still alive. You can choose when the person would have access to the assets and what the assets could be used for. Now it’s starting to sound a bit better, right? A key benefit of this type of trust is that the assets in the trust are growing outside your estate, bypassing estate tax assessment (currently at 40%) at the time of your passing.

  • Special needs trust – A special needs trust can help provide financial support to a loved one with special needs without disqualifying them from government benefits, such as Medicaid and Supplemental Security Income (SSI).

Could you use help deciding where to direct your surplus assets? Creative Planning is here for you. Our experienced wealth managers serve as fiduciaries to clients, providing advice in your best interests. We understand it can be difficult to know the best way to direct excess assets, which is why we’ll work with you to establish a strategy to support your goals and navigate the particular challenges you face.

To get started, schedule a call with a member of our team. We look forward to getting to know you.

1. https://www.cnn.com/2023/06/09/investing/premarket-stocks-trading/index.html

2. Source: NYSE, Nasdaq

3. Source: Hamilton Lane, as of April 2022. Note: Data as of Jan. 2022.​

This commentary is provided for general information purposes only, should not be construed as investment, tax or legal advice, and does not constitute an attorney/client relationship. Past performance of any market results is no assurance of future performance. The information contained herein has been obtained from sources deemed reliable but is not guaranteed.

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