Megatrends: Tax Management

Manju Boraiah: If you look at the U.S. wealth spectrum, $2 out of $3 of investable assets are in taxable accounts. So, having a comprehensive tax management strategy, I think, is critical.

Sean Burke: That’s Manju Boraiah, head of Systematic Fixed Income and Custom Separately Managed Accounts (SMAs) at Allspring. I’m Sean Burke, head of the Remi Specialist Group, and you’re listening to On The Trading Desk®. Manju, thanks for joining us.

Manju: Happy to be here, Sean.

Sean: Manju, it’s fall, a season of change in agricultural harvest. And it’s also a time when many mutual funds issue capital gains and investors begin to tax-loss harvest. Recently, you’ve been quoted as saying, “tax management is much more than just tax-loss harvesting.” Can you explain that?

Manju: Sure. Tax management, Sean, as a broad and versatile financial strategy, as you know, that encapsulates more than just tax-loss harvesting. So, if you look at the U.S. wealth spectrum, Sean, $2 out of $3 of investable assets are in taxable accounts. Having a comprehensive tax management strategy, I think, is critical. In the context of like separately managed accounts, tax-loss harvesting, in my view, is just one component of a tax management strategy. For example, tax-efficient or tax-aware portfolio rebalancing, in my view, is a key part of that. That includes the ability to evolve or rebalance the portfolios periodically in a tax-efficient manner by minimizing the overall tax liability in each rebalance. Here, I think the tax-efficient techniques that generally get used involve pairing gains against losses or avoiding short-term gains in favor of long-term gains, or capping gains in general to minimize overall tax cost. Another tax management strategy is tax-efficient cash withdrawal. So, this includes structuring cash withdrawals in a tax-efficient manner by selling assets with the lowest tax impact. I think tax management in general covers a wide array of strategies that extend beyond tax-loss harvesting. I think a comprehensive approach of tax management can really help retail investors kind of minimize their overall tax liability while achieving their ultimate financial objective.

Sean: Yeah, Manju. That sounds like a full-time job for a financial advisor. And FAs, as we all know, have a lot more than just tax management on their plates. On our last podcast, we spoke about the trend in personalized investing. Technological advancements have really brought the ability to personalize an approach to tax management. Am I wrong on that?

Manju: Not at all, Sean. I think technology has indeed revolutionized tax management in the retail separately managed account space. It’s done so by enabling more personalized and efficient strategies to kind of take hold. So, let me give you some examples. The first example is the ability to customize tax optimization itself for every separately managed account. So, the tax optimization algorithm for an individual account can now be really configured to take into account that investor’s unique financial circumstances, goals, and tax profile, or any of the constraints that they might have. So, when you run these customized optimizations, that can actually help evolve the portfolio of that particular individual or account through time in a tax-efficient manner, harvesting losses along the way, and it can help maximize their after-tax returns. The second example is the ability to automate tax-loss harvesting itself for every account on the platform. Now, automated tax-loss harvesting algorithms can continually monitor the portfolio and execute trades to capture losses when they become available anywhere in the portfolio. The third example is the ability to run personalized scenario analysis. So, technology now has enabled us to run what-if scenarios on individual accounts. Now that can help clients understand potential tax consequences of various financial decisions that they need to make. It could be as simple as taking a large cash withdrawal or maybe changing the overall asset allocation itself. And then finally, I also want to point to the ability to generate personalized tax reporting for investors. Now, there are advanced reporting tools out there that can help generate tax reports and documentation that are personalized for that client based on their tax rate, their tax constraints, or other preferences. And it can actually make it easier for them to understand and comply with tax obligations in general.

Sean: As head of Custom Separately Managed Accounts, you spend a great deal of time innovating, right?

Manju: Right.

Sean: Especially new approaches to investing. As an industry, we’ve been typically limited to tax managing individual investments. There was a lot there in your last comment around personalization and that holistic view. Is it possible to tax manage asset allocations?

Manju: I think so. It’s absolutely feasible. But I do also want to acknowledge the fact that the industry is not there yet. So far, we’ve talked about managing individual sleeves, be it stocks or bonds, in a tax-efficient way using SMAs. Now, let’s expand that concept to cover all sleeves in an asset allocation framework. Now, there’s one caveat to that, if you’re looking at the entire asset allocation framework to be tax-efficient, the individual sleeves within that framework should also be tax-efficient. Otherwise, that concept wouldn’t really hold. Now applying this concept to asset allocation models, we can envision the creation of these tax-efficient multi-asset SMA models, which are composed mostly of tax-efficient SMA sleeves. Now, these models can also accommodate mutual funds and ETFs (exchange-traded funds), if need be, to gain exposure to certain asset classes that are not available in an SMA wrapper. But the last chunk of the model will still be in tax-efficient SMAs. Now this structure can then facilitate the possibility of being able to do tax optimization across the entire asset allocation framework, rather than doing it in a piecemeal fashion. And that’s really what’s been done currently in the industry today. Now, this structure actually allows for better tax-aware asset allocation additions because changes to the asset allocation mix can now be done more thoughtfully across all sleeves to minimize the overall tax burden. This also allows, in my view, for more opportunities to harvest losses across all the sleeves in the portfolio.

Sean: There are some exciting developments that are coming. So, we’re getting close to the end of our time today. I have one last question. What should investors be speaking to their advisors about to take advantage of a more bespoke approach to tax managing their investments?

Manju: That’s an interesting question, Sean. I think depending on where the investor falls on the wealth spectrum, I think investors should consider discussing with their FAs the various options that they have to maximize their tax efficiency in their asset allocation portfolios. So, the ultimate objective should be to create an asset allocation strategy that considers both investment objectives, as well as tax efficiency. From a tax-efficiency perspective, I think the objective ultimately will boil down to getting exposures to more tax-efficient sleeves in their asset allocation portfolio. I think the discussion should be centered on creating customized tax strategies and solutions that are tailored to their specific needs, investment goals—they might have different risk tolerances and then tax preferences, as well. It’s also, in my view, quite essential for them to regularly review this and refine the strategy with their FAs to align the strategy with their evolving needs. Finally, the personalized approach actually helps them maximize after-tax returns while minimizing tax liabilities while keeping their unique financial situation at the forefront of decision-making. So, I think that’s the right way to approach it.

Sean: Yeah, some interesting things to consider as an investor. Manju, thanks for joining me on the podcast today.

Manju: Well, thanks for having me, Sean. It’s been a pleasure.

Sean: I’m Sean Burke. Thanks for joining us On the Trading Desk®.

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Disclosure: Allspring Global Investments does not provide accounting, legal, or tax advice or investment recommendations. Any tax or legal information in this post is merely a summary of our understanding and interpretations of some of the current income tax regulations and is not exhaustive. Investors should consult their tax advisor or legal counsel for advice and information concerning their particular situation.