High-net worth individuals (HNWI) are typically defined as those holding between $1 million and $30 million of liquid assets. The category of “ultra-high net worth” applies to those holding more than $30 million. Both groups face a number of unique tax challenges. They often have complex puzzles of assets and liabilities that require careful attention and planning throughout the fiscal year – not just at tax time.
Investment opportunities and estate tax concerns are the most common situations requiring special planning, with philanthropy and charitable giving not far behind. Moreover, high-net worth individuals are frequently business owners, meaning business tax and succession planning often overlap. Our firm’s experience in working with high-net worth individuals informs the following four strategies we recommend across the board.
Approach 1: Fine-tune your portfolio for tax efficiency
You may already know this, but a large part of high-net worth individuals’ wealth – as much as 55%, in fact – is in retirement vehicles such as Roth IRAs and 401(k) accounts. The main way that HNWI do so is through Roth conversions, which involves taking other accounts and converting them into retirement accounts, a necessary workaround because income thresholds mean they cannot maximize their contributions the way other earners can.
You will also want to routinely perform harvesting by selling profitable assets and instruments at a net loss, and then buying a similar asset to maintain your account balance. Do not wait to do this only at year end or around tax season, however.
Approach 2: Explore and maximize charitable giving instruments
Donor advised funds are generally a strong and tax advantaged option for supporting charitable causes that are close to you and your family. There is no time limit as to how long money within the fund can be kept there, and they can accept non-cash assets like bonds and mutual funds as well. Federal income tax deductions, at least, are as high as 60%.
Traditional foundations, as well as charitable remainder and charitable lead trusts, are possible alternatives. But it is important to work with a skilled financial advisor to decide on a fund – in some situations, a charitable lead trust may be better than a donor advised fund, for instance – set it up, and continually oversee it.
Approach 3: Take care of business as well as personal tax matters
Pre-transaction planning is one of the most involved business concerns, involving months of detailed steps, and sometimes longer. If you think you may be inclined to sell part or whole of your business, it is important to put together a plan with key goals, expectations and conditions for a sale deal, reviews of securities laws, and more. Alternatively, if you are planning to exit from a major role at a company rather than sell it, your exit strategy should include tax considerations around incentive stock options (ISOs) and other benefits.
Approach 4: Make decisions about succession planning
Generational wealth transfers and associated estate taxes need to be monitored regularly to keep track of tax law, regulatory changes and even performance of investments to optimize what you’re leaving behind. Of course, it is always ideal for individuals to consult a financial planner or family office near them, because the right approaches for succession planning will vary from instance to instance.
Keep in mind that you want someone who is experienced at working with affluent individuals and families – and this means looking beyond dollars and cents. For most high-net worth individuals, money isn’t as important as legacy, such as what will happen to businesses that were painstakingly built, or philanthropic records started well before death. The right steps are what safeguards this, and as such, cannot be taken for granted.