Special Investment Update – November 21, 2017

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Dear Clients & Friends,

The vote was pretty close, 227-205. But the GOP majority in the House of Representatives held back enough defections to clear its version of “tax reform” last week. If the Senate can follow through by passing a tax bill of its own, we should expect the headline U.S. stock indexes to break out to fresh record highs in December. However, any deviation from this scenario could trigger a setback, perhaps deeper than most investors now think possible. Why are we so cautious? Not only are valuations historically high, big institutions have also positioned themselves very aggressively by drawing down cash reserves and over-weighting volatile sectors of the equity universe such as technology, banks, emerging markets and Japan. Eventually, some of these investors who have ridden the market’s momentum will get spooked by some macro development. A geopolitical event may provide the trigger or more likely, the Federal Reserve will tighten the credit screws a few more turns in 2018, raising doubts among forward-thinking investors about a potential drop in corporate profits. Whatever the cause, the market’s upward momentum will break. Then the urge to sell will seize a broad cross-section of investors. The liquidation will not end until today’s glamour stocks have been beaten down 30% or more.

Maybe Congress will pass a “tax reform” package before the end of this year. Maybe not. However, there is no need for us to wait any longer for any year-end tax planning. There are steps you can take right now to chop your tax bill before year-end and accelerate the growth of your portfolios in 2018 and beyond.

The first step is to maximize the funding of your retirement accounts. In most years, this is boilerplate advice you hear from every financial columnist. If you are eligible for an IRA, 401(K) or self-employed pension plan, top off your contributions to the maximum dollar amount allowed. This year, though, the recommendation carries a little more urgency than usual. Amid the wheeling-and-dealing over tax reform, some legislators have proposed cutting back on tax-deductible retirement contributions. Nobody knows what might result from the horse trading. Currently, an employee can contribute up to $18,000 a year into a 401(K), or $24,000 if you are age 50 or older. For IRAs, the cap is $5,500, plus another $1,000 if you are 50 or older. If you are self-employed and looking to maximize your tax-deductible contribution this year, consider setting up a defined-benefit pension plan. Such plans are designed to produce a retirement benefit valued at up to 100% of your average compensation for your three highest –earning years, up to a maximum limit of $215,000. This type of plan would especially benefit business owners in their last 10 years or so before retirement. Defined-benefit plans can allow you to make a much higher annual contribution than 401(K), SEP-IRAs or other types of retirement plans.

The second tax-saving step is to consider gifting appreciated stock or mutual funds to your favorite charity. Such gifts would provide a tax deduction based on the fair market value of the gifted security – not the original cost basis. First and foremost, you want to be sure you held the security at least a year and a day. Otherwise, you will only be able to deduct the original purchase cost, not the current market value. Also, there are further limitations if your adjusted gross income exceeds $261,500 for singles and $313,800 for joint filers.

The final tax-saving step is to take a hard look at your investment portfolios. For those who manage their own portfolios, consider weeding out stocks or funds in a taxable account that have declined in price since you purchased them. Capital losses can be offset against any gains realized in 2017. In addition, you can apply up to $3,000 a year in capital losses to reduce your income from other sources. However, before you sell a loser security from a taxable account, it is important to note that you will forfeit the tax loss if you buy back the same investment within a 30-day period (“wash-sale” rule).

As far as our firm’s managed investment portfolios are concerned, we have been busy utilizing this strategy throughout the year. We have been buying and selling securities to “harvest losses” in an effort to offset gains in all of our taxable portfolios.

This is Thanksgiving week again and time to pause and reflect on our many blessings. Investment returns are only a small part of the total picture, of course, but 2017 has been another good year, on balance, for us at Farmand Investment Services. So, while we intend to enjoy our turkey and fixings without giving a second thought to the stock market, you can be sure that we will remain vigilant in the weeks ahead for signs that the investment climate may be changing either for the better or the worse.

We want to thank all of you for giving our firm the opportunity to serve you. We thank you very much for the trust and confidence you have placed in our firm as it is always appreciated. Please contact us should you have any questions or comments. May you have a happy Thanksgiving and a blessed holiday seasons.

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