WEALTHTECH INSIDER: Three Ways Wealthtech Helps Advisors Through Capital Gains Tax Hikes


First published in November, 2021

By Andy Rosenberger, CFA

No matter how the politics in Washington play out, you can count on investors making tax management a larger part of their decision-making process. While it is true that not every advisor client will be impacted by proposed tax law changes, the prospect of higher taxes has many investors thinking about higher capital gain rates and other tax threats in their portfolios.

It wasn’t always this way: in a bull market fueled by low taxes and low interest rates, advisors often told their clients not to let the “tax tail” wag the dog. Now, after a 12 year bull market, many investors are pushing back on the idea of ignoring the impact of taxes. Clients and prospects are looking to advisors to help them solve the problem of how to transition away from concentrated positions and reduce their tax burden over the long haul.

Here are some paths advisors can take to protect their clients in the months to come.

Optimize your asset location and tax loss harvesting. Many advisors claim to offer asset location services to some degree. However, a recent Cerulli study found that only 20% of advisors employ ongoing, automated asset location and tax management solutions on behalf of their clients. Asset location optimization is an ongoing, long-term process that evolves along with the client’s goals and objectives. This means that effective client reporting is just as important as your tax management technology.  Clients need to see and understand what you’re doing on their behalf as well as quantify how much additional wealth you will potentially create through greater tax efficiency. Immediate, effective reporting helps show your value and helps clients stick to their goals over time.

Likewise, it’s important to be as proactive as possible. Tax loss harvesting is a great example. It is very typical to see advisors manage a client’s tax management by tax loss harvesting at year end. The most volatile days of 2020 are a prime example of the downside of not having a more proactive approach. Anyone who waited until the end of the year missed out on significant tax loss harvesting opportunities that were available during the early months of the COVID-19 pandemic. With the proper technology in place, advisors can scalably offer tax harvesting services throughout the year.

Look for direct indexing solutions. Direct indexing is having a moment right now. Advances in technology have vastly simplified a process that was once costly, time-intensive, and only suitable for ultra-wealthy clients. Zero-fee trading and greater industry competition have only continued to push down the cost of employing direct indexing strategies for your clients.

Direct indexing has gained popularity as a way to satisfy the ESG concerns of clients, allowing advisors to customize an index according to their values. But direct indexing can also help manage an investor’s tax exposure and solve for challenges around legacy positions with significant embedded capital gains. Direct indexing can also be leveraged for additional features like setting an investor’s capital gain budgets to create more predictability around a client’s annual tax liability.

Don’t forget the basics. Advisors shouldn’t ignore the simple day-to-day wins that can create a more tax-efficient portfolio. Although it represents the more fundamental “blocking and tackling,” ignoring the basics of tax management can potentially cost your relationship with your best clients. Specifically, advisors should leverage technology to help minimize short-term gains, prevent wash sales, and employ trade netting, which can minimize gains from offsetting trades. Advisor technology has improved and expanded our industry’s toolset so that these simple strategies can be automated, allowing advisors to focus on growing their practice and helping clients rather than fixing operational problems.

Finally, it pays to take a deep breath and look at the investor’s overarching goals. Tax changes can send people into a panic, but nothing is set in stone. As we’ve all seen, tax rates can ebb and flow along with the politics of the country. Don’t make long-term decisions based on short-term tax fluctuations in tax policy. Look instead at what an investor is trying to achieve, be flexible enough to help them get there, and leverage technology to help improve the probability of achieving an investor’s desired outcomes.

Andy Rosenberger, CFA, is Head of Tax Managed Solutions at Orion.