Fiscal Cliff, Financial Planning and You
By Rob Wrubel, CFP®, AIF®
The US economy, taxpayers and politicians looked over the fiscal cliff. Most of us did not like what we saw – higher taxes, a slowing economy (maybe) and chaos in government. Apparently, even the gridlocked politicians in Washington decided that some alternative was better than jumping off without a parachute. Did all the financial problems of government, taxes and partisanship get solved? Not even close. Was it better to have some outcome so businesses, individuals and investors could move forward? Yes it was.
More work needs to be done. Deficits and government debt continue to grow and these need to be addressed with effective long term solutions. The corporate tax rate structure and the system of available loopholes are confusing. It looks like the movement towards a simpler tax system is still in the works for individuals and businesses. Bipartisanship on key issues, even just a desire to negotiate between the parties, is still badly needed.
The fiscal cliff dominated discussion for a few months. We heard about it from everyone and everywhere we went – from news, blog and friends at holiday parties. Some people bought gold, others food and everyone with any investments considered, for at least a brief moment, selling everything. Cascade Investment Group fielded plenty of calls to discuss the issue. And yet the impact of the fiscal cliff can now be added to those of Y2K and the Mayan prophecy.
We are big believers in creating financial plans for our clients, and developing investment, insurance and spending accounts to accomplish those plans. We do not think that making changes for every news story, financial event and manufactured crisis helps you accomplish your goals. Plans must have built in buffers to economic and market shocks. They must account for the fact that stocks, bonds, real estate and other investments have periods of negative return. The plans must understand that personal life events redirect energies, savings ability and those long term plans.
The fiscal cliff issue is a great example of how short term nerves can impact a portfolio return over time. The fiscal cliff concerns did not really kick in until after the Presidential election. The S&P 500 ran up prior to the election, from 1375.32 on August 1 of 2012 to 1428.39 on election day (Yahoo Finance). That is close to a 4% gain over those months. The low between the election and January 9 was 1353.33 – a drop of more than 5%. Those who sold the week after the election as they feared the fiscal cliff lost all the gain from August and had no chance to make it back if they sat in cash. Those that held on saw the dip and then the run up to where we were of just under 1460 on January 9 – above the election level. Yes, those that sold missed the roller coaster from the election to today but they also lost the ability to have gained over this short time period.
Now, those who needed cash and had to sell during that time did not really have a great plan in place or a working advisory team. Those that did have a plan could sit back and enjoy the holidays knowing that any brief interruption (and the fiscal cliff was expected to be brief) would not likely change their financial situation today or in the future.
Three big issues came to the forefront of planning as a result of the looming fiscal cliff and these issues are usually addressed in the financial planning process.
- Access to cash. Most of our clients keep an emergency reserve of at least several months spending needs. This is “boring” money for the most part that sits in money market accounts or laddered Certificates of Deposit so the money can be accessed as needed. For retired clients and endowments, we usually recommend keeping closer to a year of expected spending in short term and highly accessible funds with us. Imagine if you knew your next six to 12 months of cash needs were available and not subject to market fluctuation. The long term prospects of the stock market still matter, economic growth throughout the world is still necessary but the short term fluctuations of politics do not have nearly the impact they would if you were concerned about needing to access capital tomorrow.
- Taxes. The issues around the fiscal cliff could certainly have had an enormous impact if you have not done any tax planning as part of your financial review. The tax scenarios looked bleak for many if the tax code reverted to the higher rates on capital gains and qualified dividends. We have a number of clients who still have concentrated positions – high percentages of their net worth in one or two stocks, private companies or real estate. The planning process allows us to review with clients these positions and create an orderly process for selling and diversifying those assets when appropriate. The potential higher taxes on capital gains was one more step in a conversation we have been having with clients for years – not a time to panic and make a poor decision.
- Estate planning and family asset transfers. A number of our clients with aging parents needed to consider action to preserve family wealth in the event that estate tax exclusions went back to $1 million. Again, advanced thought, knowledge and consideration helped in 2012. We were able to have reasoned, calm discussions with families well before the end of the year to give those families the time and information needed to make the best decisions for them. Several families went ahead with significant gifting and asset transfers as insurance against the estate tax changes. To the surprise of most financial and estate planners, the negotiated resolution the fiscal cliff included provisions lifting the estate exclusion to $5 million and indexed it to inflation to avoid future squabbles.
January is the time of resolutions, promises to yourself and preparing for the New Year. Make sure to meet with us this year to review your goals, your plan for achieving those goals and your progress towards them. Your 2013 could be more enjoyable and less stressful with your plan firmly in place.
Rob Wrubel CFP®, AIF®, is a Senior Vice President, Investments with Cascade Investment Group, member FINRA & SIPC. Cascade Investment Group is not a tax or legal advisor. You should always consult with your tax advisor or attorney before taking any actions that may have tax consequences.