How to Survive a Downturn: Effective Tax Planning & Investment Tactics

How to Survive a Downturn: Effective Tax Planning & Investment Tactics

As Utah financial planners, one of the most frequent questions or concerns we discuss with the people we meet is market volatility and the impact a potential 2024 recession could have on their retirement savings and plans.  

The good news is that there are tax planning and investment tactics you can take today to protect your hard-earned savings if there is a significant market correction in the coming months.  

In this article, we’ll look at four of the tactics:

  1. Asset location
  2. Tax loss harvesting
  3. Strategic retirement account contributions
  4. Applying behavioral finance principles to your retirement planning 

There is a bottom line: You need a tailored financial strategy to manage your wealth’s complexities to make smart, informed decisions aligned with your long-term financial goals. 

Investment Tactic #1: Location, Location: Position Your Investments to Minimize Taxes. 

Asset location is a strategic approach to managing your investments that focuses on minimizing taxes. It involves contributing assets to different accounts to take advantage of their tax treatment. By strategically placing assets in tax-deferred, tax-free, and taxable accounts, you can navigate volatile markets more tax-efficiently, thereby preserving more of your wealth for your future use.

An asset location strategy aims to minimize taxes and maximize after-tax returns. 

Here’s how it works:

  1. Asset location involves strategically placing investments in accounts with different tax consequences. For example, tax-efficient investments, like index funds with lower turnover, are typically placed in taxable accounts, so you benefit from lower capital gains taxes.
  1. Assets that generate increased taxable income, such as bonds or higher dividend stocks, should be invested in tax-deferred accounts like IRAs or 401(k)s. This shields the income from immediate taxation.
  1. Your portfolio(s) should be rebalanced periodically based on original asset allocations. During market downturns, this becomes crucial. By selling appreciated assets in tax-advantaged accounts and buying undervalued assets in taxable accounts, you can offset capital gains and potentially reduce tax liabilities.

Remember, it’s not just about the returns you earn but also about how much you keep after paying applicable taxes.

Investment Tactic #2: Tax Loss Harvesting

Tax loss harvesting is another strategic investment tactic that can be particularly useful during market downturns because it enables you to use portfolio losses to offset gains. 

Here’s how tax loss harvesting works:

  1. Identify investments that have declined in value since your original purchase. 
  2. You sell these assets to realize the losses. Then, proceeds from the sale are reinvested into securities on your buy list.
  3. The capital losses generated from selling these assets are used to offset any capital gains within the portfolio. This reduces your taxable gains bill and, consequently, your overall tax bill.
  4. If the losses exceed the gains, you can use the remaining losses to offset future gains in subsequent tax years.

This tactic is a valuable tool for long-term financial planning in and can contribute to improved overall portfolio performance.

Investment Tactic #3: Diversification

Investment diversification is crucial, particularly in particular during market downturns.

Diversifying your investments across various asset classes, such as stocks, bonds, and real estate, can help spread your risk. Instead of putting all your eggs in one basket, you invest them in multiple baskets. 

When one asset class experiences a downturn, others may perform better, reducing the overall impact on your portfolio. 

During market downturns, the preservation of your retirement capital becomes paramount. Diversification reduces downside risk and creates opportunities in different sectors or industries that may perform better in a broad market decline.

Diversification is a long-term strategy that can help your portfolio produce better returns for less risk. 

Investment Tactic #4: Make Informed vs. Emotional Decisions

Behavioral finance examines how our psychological biases and emotions influence our financial decisions. At Scott Marsh Financial, we utilize behavioral finance as a way for you to make informed, disciplined decisions, in particular during volatile market conditions. 

Here are ways that behavioral finance can help protect your wealth, especially during a market downturn due to a 2024 recession:

  • Don’t overreact! Behavioral finance can help you avoid making irrational decisions during market downturns. By understanding that fear and anxiety drive impulsive decisions during market declines, you can stay calm and avoid rash moves that could impact your short and long-term financial resources.
  • Don’t feel the need to follow the crowd. People often make investment decisions based on what others are doing or saying, which can lead to irrational decisions. Behavioral finance encourages independent thinking and disciplined decision-making.
  • You may be tempted to sell assets during a market downturn, but behavioral finance reinforces the importance of having a long-term perspective because markets have always recovered.
  • Your biggest financial risk is not the volatility of the cyclical securities markets. It is the risk of failing to pursue your long-term goals – for example, financial security late in life when you need it the most.
  • It is important to set clear investment goals and develop a well-defined strategy for pursuing them. This strategy increases the likelihood of making rational decisions and reduces the likelihood of making irrational decisions. 
  • Overconfidence bias occurs if you have an exaggerated belief in your ability to make accurate financial decisions. You may overestimate your knowledge and underestimate risks, leading to potentially risky investments or excessive trading. Overconfidence can lead to poor investment outcomes.
  • Loss aversion bias is the tendency to fear losses more than value gains. You may hold onto losing investments for too long in the hope that they will recover, even when it may be wiser to cut your losses. This can result in missed opportunities and reduced portfolio returns.
  • Confirmation bias is the tendency to seek information that supports your existing beliefs while ignoring or discounting information that contradicts them. This bias can lead to a lack of diversification and a failure to consider alternative viewpoints, potentially resulting in under-performance.

About Scott Marsh Financial in Salt Lake City

Since our inception in 1980, we have been an independent, boutique financial firm, guiding families across the United States in accumulating personal wealth and creating legacies for future generations. 

Our commitment to providing you and your family with financial knowledge and information distinguishes us from other financial advisory firms in Utah. As an educator at Brigham Young University, Scott Marsh has emerged as a leading subject matter expert, influencing his local community and significantly impacting the broader financial field. 

We firmly believe that America’s financial success hinges on applying sound financial practices, habits, and methods, best acquired in an environment that fosters enlightenment and unbiased education.
To learn more about our tax-efficient investment strategies, connect with us to schedule an introductory meeting.

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More about the author: Scott Marsh

Scott Marsh has been referred to as America’s Financial Advisor and Educator. He is considered one of the foremost thought leaders in the financial services industry and hopes to share his knowledge with others so they can create a legacy of financial prosperity. He is the founder of Scott Marsh...