Nobody really like paying taxes. So what would your clients say if you could make it so that they paid no tax on the capital gains of their investment portfolio?

Just because something is true does not mean it is right. However, many asset managers and advisers still use the promise of low- or zero-tax wealth management to appeal to clients without telling them an important caveat – that it will be very challenging to get into those investments over time. their lives without paying taxes.

Why do so many in the industry do it? Because talking about taxes and showing clients their tax bills is difficult, and many advisors would rather do almost anything than show an investment tax bill. Using tax deferrals makes it easier to show a positive result (little or no tax) at the end of each year, which makes clients happy. But of course, the tax bill is just being thrown out, and unless the client dies and passes the assets on to their heirs, they will have to pay the taxes one day. In a worst-case scenario, they may hit a “tax bomb” and may not appreciate the size of their tax bill and actual after-tax wealth just when they need it most.

If you think explaining the tax bite is difficult now, imagine the conversation in 20 years if you keep pushing without being transparent about the tax liability.

Instead, advisors should approach taxes and tax management holistically, which I like to think of as “Tax Managed Investing for the Good Life.”

What is Tax Managed Investing for a Life Well Lived?

This approach to tax that maximizes the value of clients' portfolios with the goal of having enough assets available to live the life they want, even after paying taxes.

Basically, this is what a good advisor should be doing already: Learn about your client's dreams, desires and needs and apply a tax management approach that optimizes their assets for those goals.

• Start by asking what is important to them in life. What do they value? What's on their list? Knowing that a client wants to travel in retirement, wants to buy a second home, and wants to give to charity helps you calculate how much money they'll need over the years.
• Be realistic about future expenses. Most people will have expenses in retirement that they didn't have before, chief among them health care and long-term care. You can't predict the future, but it's smart and responsible advice to ensure clients have access to funds in an emergency that an underrated tax bomb won't destroy.
• Engage customers in legacy conversations. Talk to clients about money they don't need for their lives (if any). If they want to give it to charity while they're still alive, that's a tax strategy. If they want to give it to their kids as an inheritance, that's another one (and one where the constant deferrals might make sense, with caveats.)
• Be transparent about tax law. Deferred taxes must be paid in full when the asset is sold by its owner. In general, there is no way around it. When inherited, the capital gains clock resets, so the next generation will pay taxes on the gains realized after receiving the asset.
• Don't let the tax tail wag the dog. You owe it to your client not to make them pay more tax than they have to, but a one-size-fits-all tax avoidance strategy is often not in the client's best interest. Sure, you could invest it all in municipal bonds and limit the amount you pay in income taxes — but what you end up with might be less than if you invested in a diversified, tax-savvy approach.

Tax deferrals, timing and strategy still matter

That's not to say there's no value in procrastination. Being smart about paying taxes to minimize their impact or maximize cash flow in the years a client needs it is absolutely a value advisors can and should provide. An unpaid tax can be powerful. However, one should not maintain a less than ideal portfolio to avoid a potential tax.

Advisers must also be aware of the tax environment. Different administrations and congressional leaders have different tax plans, so paying taxes when the capital gains tax is lower makes sense. Understanding that income generally decreases during retirement, and thus can also decrease the capital gains tax rate, can also provide advisors with a way to minimize the tax bite.

In all of this, be realistic about the inheritance. We in business like to talk about the “great transfer of wealth” coming from the Baby Boomers. But not all investment portfolios will be passed on to heirs. Most people will need or want to spend some or all of their assets during their lifetime – so it's essential to ensure that taxes are addressed responsibly along the way.

Use tax strategy to support a life well lived

At the end of the day, it's about helping customers live well – whatever that means for them. As an advisor, you can help them not only manage their assets responsibly, but also help them see their dreams more clearly and how they can achieve them.

If customers want to fly first class, or splurge, they should be able to do so without regret. It's their money and their lives. Making the most of their money available to them is your job – and one you can do better by taking a more holistic view of tax management.