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How to create tax-smart retirement income

September 25, 2019 Steve Zuschin By Steve Zuschin

You are seeing more news about how to generate retirement income efficiently and effectively. LifeYield and the Black Diamond Wealth Platform have partnered to help advisors show clients how to improve after-tax results while accumulating assets when drawing income. We asked LifeYield executive Steve Zuschin to address the benefits of managing multiple accounts in a risk-smart, tax-smart way, including asset location and tax-smart coordinated withdrawals.

Does the typical investor nearing retirement you engage with sound something like this? They have 5-7 accounts, including brokerage, IRA rollovers, 401(k)s, Roth IRAs, and trust accounts spread among 2-4 advisors and institutions? How coordinated does their household portfolio sound to you? If they were to coordinate all their household holdings while considering risk and taxes, do you think they could improve after-tax returns and income?

Getting retirement right matters. Sadly, investors undermine themselves unknowingly. Multiple studies show investors have bought a variety of financial products at different times for different reasons from different people, and don’t have any measure of a coordinated plan. Ernst & Young conducted a study on a household with $1,000,000 in IRAs and brokerage assets and found a coordinated household portfolio management approach increased assets by 19%, annual retirement income by 33% and bequests by 45%.

These improved results were achieved by:

  1. Maintaining the target asset allocation at the household level and by locating assets in the most appropriate account type
  2. Minimizing income taxes on interest and dividend income
  3. Minimizing taxes on capital gains
  4. Buying and selling assets in the most appropriate account type
  5. Implementing a tax-optimal withdrawal policy

Sadly, few investors achieve these kinds of improved results, primarily due to a lack of coordination.  This lack of coordination leaves its biggest impact by causing people to pay unnecessary taxes. As financial expert Ed Slott says, “Taxes are the biggest issue that keep clients from living their retirement dream.”

Independent research by Morningstar says investors can enjoy 52 basis points in improvement per year through tax-smart asset location. The study also found after-tax income can be improved by 54 basis points per year. And according to an independent analysis by Ernst & Young, household-level management can result in up to a 33% boost in after-tax returns and income improvement over an investor’s lifetime. This is tax-smart household portfolio management in action.

Asset location is defined as creating a household-level asset allocation and then locating investments in the optimal account types. A general rule of thumb is to place tax-inefficient assets in qualified accounts and tax-efficient assets in taxable accounts. The objective: reduce taxes paid and maximize after-tax returns and income.

Most financial advisors are aware of these benefits, but struggle to convey the fundamental importance of these strategies to their clients – and show how to quantify the missed opportunities for investors who are working with several financial advisors.

LifeYield and Black Diamond have partnered to help advisors quantify the benefit of optimal asset location and demonstrate value beyond investment returns. Black Diamond advisors can leverage this integration to:

  1. Calculate the Taxficient Score® on each client. On a scale of 0 – 100, LifeYield will calculate the tax-efficiency of any household and quantify the dollar benefit of coordinating all accounts, including those held away.
  2. Create proposals showing how to implement the recommendations across multiple accounts and products.  
  3. Create tax-smart retirement income using the optimal withdrawal strategy from taxable, tax-deferred and tax-free accounts when clients need to liquidate assets.

The result: Advisors and investors achieve improved after-tax returns, more rapid accumulation of wealth, enhanced income and/or bequest, and the ability to demonstrate clarity of their value beyond investment performance. The data shows this results in an increase in asset retention and consolidation.

Forward-thinking firms have invested tremendous resources to solve this puzzle. But these firms don’t have a tool to measure the dollar and cents benefits of how well the client is doing, and don’t have the ability to graphically illustrate to a prospect or client how much value is being added through tax-smart household management.

Like a credit score, the Taxficient Score assesses the tax efficiency of all an investor’s accounts on a scale of 0-100. The higher the score, the better positioned the investor is to minimize taxes in order to make and keep more money, and improve the ability to achieve retirement goals.

Through LifeYield’s integration with Black Diamond, an advisor can pull all associated accounts for a client or prospect’s household into LifeYield, create a Taxficient Score and run a proposal which quantifies the investor’s benefit of Tax-Smart Asset Location and create tax-smart retirement income.

Read the original post on the SS&C blog here.

Steve is the EVP of Advisor Success at LifeYield. He's responsible for leading our Direct-to-Advisor channel and always keeps up on the latest advisor technology. Steve writes about how advisors can grow their business by building stronger relationships with clients and adopting new technology.