Trump’s Tax Plan: Our Initial Thoughts

President Trump and his economic advisors released broad outlines of their tax plan on Wednesday. Our purpose in this blog is to provide an overview of the potential changes and some planning concepts that may be applicable.

  • This is a very preliminary plan which does not have many specific details. More importantly, to get tax legislation passed and enacted into law is a difficult process. The actual law, if enacted, may be quite different than these concepts. You should not make actual decisions or actions based on this plan, until a law is enacted or legislation is much closer to reality.
    • Planning point: there has not been a discussion of an effective date of these proposals. We assume it would apply to 2018, but we will keep you informed. In general, if tax reductions are enacted that apply to 2018, specific strategies would make sense by this year-end.
  • Tax rates should be dropping: They have proposed three individual tax rates (10%, 25% and 35%) from the current seven tax brackets, but have not defined at what taxable income levels they will apply to. The top rate would drop to 35% from the current rate of 39.6% for married couples with income above $470,000.
    • Planning point: if applicable beginning in 2018, you would want to defer income, if possible, to 2018 and move deductions forward into 2017.
      • If rates do drop for 2018, and your income is expected to be unusually high in 2017, you may want to consider strategies like large charitable contributions in 2017 to a charitable foundation or specific charities.
  • The key are the details, what goes away: While tax rates are expected to decline, deductions such as state and local income taxes, property taxes and miscellaneous itemized deductions are eliminated in the proposal. Some of the reduction in tax rates may be offset by eliminating deductions.
    • Planning point: if the above items are eliminated for future tax years, it would make sense to prepay state income taxes, property taxes and itemized deductions in 2017.
    • As proposed, deductions for mortgage interest and charitable contributions will remain the same.
  • Increase in standard deductions: The plan would double the standard deduction, so fewer taxpayers would need to itemize. This simplification makes sense.
    • Planning point: If this was enacted and impacted you, we would encourage you to pre-pay items which would not be deductible in the future, to get the tax benefit in 2017.
  • Repeal of Investment income tax: There is a 3.8% surcharge tax for couples with taxable income over $250,000 on investment income, such as dividends, interest and capital gains. This is proposed to be eliminated. If enacted, this would be another significant tax reduction to those taxpayers.
    • Planning point: As this gets discussed further, the timing of capital gain transactions should be monitored. If enacted for next year, it would make sense to take losses against gains this year and delay some capital gain sales until 2018. However, we would caution anyone to delay stock sales into the future just to save a 3.8% tax, as stock prices are much more volatile and the price movement is more relevant than the change in this tax rate.
    • There has not been any proposal discussed to change the actual capital gain tax rate, which is 20%, not counting the net investment income tax above.
  • Repeal of AMT: This would benefit those who have high deductions or large capital gains, which tend to reduce their federal tax below the AMT tax base. Both the House and Trump plan call for the AMT repeal.
  • Repeal of Federal Estate Tax: Both the House and Trump plan call for the repeal of the Federal estate tax. However, based on how the legislation is enacted, this could likely be temporary for only 10 years, if the legislation is not “revenue neutral” and passes Congress through the reconciliation process. We have not seen any discussion as to whether the step up in basis of assets upon someone’s death will be changed.
    • Planning point: If the estate tax repeal is not permanent, depending on your age and health, you should not make major changes to your estate planning. Remember, the estate tax could be repealed and then enacted again in the future.
    • Planning point: If repealed, for those with large estates (couples with estates above $11 million), there may be planning opportunities if you are impacted by the Generation Skipping Tax or would consider gifts to grandchildren.
  • Reduction in corporate tax rate: The Trump plan calls for lowering the corporate tax rate from 35% to 15%. The House plan calls for a 20% corporate tax rate.
    • A major topic will be the impact on pass-through entities, such as partnerships, master limited partnerships and LLCs, whose income is passed through to individuals and taxed at each person’s respective tax rate. If enacted, this pass-through income may be taxed at much lower corporate rates than the higher individual income tax rates.
    • Planning point: If enacted, this will be an area of significant tax planning for all types of businesses and earners.

As we are financial advisors who are also CPAs with strong tax backgrounds, we are uniquely qualified to provide you with comprehensive financial advice during periods of significant tax law changes.

We will keep you updated through this blog, as these proposals become closer to legislation which may be enacted. If you have specific questions, please contact us.

10 Things You Should Know

  • Economic forecasts and stock market movements are often not the same. Even though most people think the US economy is stronger than Europe’s, International stock markets are doing better than US stock markets so far in 2017.
  • Expect the unexpected. Conventional wisdom frequently is wrong.
    • It does not look like corporate or individual tax reform is going to get completed in the coming months. There are no real proposals on the table. The initial goal of Labor Day looks unlikely. Will this get done by year end?
  • To be a successful investor over the long-term, it helps to have a clear and consistent investment philosophy. This is why we develop written investment policy statements for all of our clients.
  • Interest rates are very hard to predict. Short term rates have increased. Longer term rates have gone down, despite nearly all forecasters predicting the opposite at the beginning of 2017. This is why we don’t make interest rate bets with your fixed income investments.
  • The price of oil continues to fluctuate around $50-55 per barrel. There was a large price decline this week, as US shale oil production continues to increase. Output is expected to rise by 124,000 barrels a day in the US during May. Rig count has risen 13 weeks in a row and is at a 2 year high.
    • US production puts a cap on oil and gasoline prices, which is good for US consumers and companies that use oil to produce goods. Not so good for oil and related companies.
  • Uncertainty is the only certainty. By investing in broad based index-like funds which we recommend, you are better able to handle uncertainty.
  • The following statistics are startling and provide further confidence in our stock investing philosophy of using globally diversified asset class funds, which track various benchmarks:
    • In a just released SPIVA US Scorecard** report, during the 5 years ending December 31, 2016, 88% of large-cap managers, 90% of mid-cap managers and 97% of small-cap managers underperformed their respective benchmarks.
    • During the 15 years ending December 31, 2016, the same report showed 92% of large-cap managers, 95% of mid-cap managers and 93% of small-cap managers underperformed their respective benchmarks.
    • If you are not a client, do you know if your fund managers or your individual stock portfolio are underperforming or out-performing their respective benchmark?
  • Some investors hold individual stocks long-term because they value the high dividends the companies pay. However, the dividends can come at a huge opportunity cost, if the underlying stocks vastly underperform major benchmarks over the long term. Investors in IBM, Verizon, American Express, Coke, many utilities, and energy related stocks and limited partnerships would have been far better off financially with broader investments, even though they would have received less in dividends.
    • For example, these companies have dramatically underperformed the S&P 500 over the past 5 years: IBM (15%) per year, Verizon (4.2%) per year, American Express (6.6%) per year, Coke (7.6%) per year and Enterprise Products Partners, a major oil and gas infrastructure firm (7.5% per year).
  • Sometimes stock market valuations do not make sense. Tesla produces a tiny fraction of the cars made by Ford or GM, yet Tesla’s stock market capitalization is more than each company. Tesla’s Gigafactory being built in Nevada will be the world’s biggest building, with over 5.5 million square feet, or approximately 100 football fields. We won’t know for many years whether Tesla will be successful or not, or the future direction of its stock. By being broadly diversified, you can benefit from its success or not be dramatically hurt if the stock does poorly.
    • One of the benefits of our investment strategy is broad diversification and not having to make individual stock decisions like this. Around 1999-2000, when Amazon was taking off, I never thought its stock price made sense. It always seemed highly overvalued. However, through the phenomenal growth of its Amazon Web Services and online sales, it became profitable and investors have benefited.
  • The long-term historical perspective which we provide as advisors can help you to be more financially successful. It is how you can be rational in the face of uncertainty and deal with the onslaught of news events and the rapidly changing world.
    • Perspective, planning, discussions and comprehensive advice on topics such as investments, tax management, charitable giving and estate planning all provide you with peace of mind and security.
**Source: Spiva US Scorecard Year-End 2016, produced by S&P Dow Jones Indices.

Benefits of Global Diversification

Are you globally diversified? We hope so.

Should you be? Yes, we strongly recommend it.

What does globally diversified mean?

If you own only large US based companies, with business operations around the world, does that count as globally diversified? No, as stocks based outside the US sometimes perform differently than US based stocks. 

  • Being globally diversified means owning companies throughout the world which are based in other countries.
  • We recommend that approximately 30% of your stock portfolio, depending on your personal circumstances, should be invested in companies based outside of the US.

Why is this so important? Because based on data since 1970, the returns of a globally diversified portfolio, allocated to various asset classes and with approximately 30% of the portfolio based outside of the US, would have outperformed the S&P 500 by a margin of 4 to 1.** 

Let me explain that again, so it is very clear.

  • If you had invested $1 in the S&P 500 in 1970, you would have had $100** at the end of 2016.
  • If you had invested $1 in the “Dimensional Global Balanced Equity Strategy (the Diversified Portfolio) in 1970, you would have had $400** at the end of 2016.
  • Don’t you think broad global diversification is worth the difference between $400 and $100?

Diversification requires discipline. Diversification means that some years the S&P 500 will outperform such a Diversified Portfolio. But being broadly and globally diversified, with exposure to small, value, international and emerging market stocks means you will have a greater opportunity for a more desirable outcome.

  • Based on this analysis, the S&P 500 did better than the globally diversified portfolio in 18 years.
  • However, the globally diversified portfolio outperformed the S&P 500 in 29 years, or nearly 62% of the annual time periods.
  • The globally diversified portfolio outperformed the S&P 500 in 84% of the overlapping 10 year periods between 1980 and December, 2016.**
  • While the expected returns of a diversified portfolio should be beneficial, the rewards sometime require patience.
    • During the 1970s, the globally diversified portfolio outperformed.
    • During the 1980s, the globally diversified portfolio outperformed.
    • During the 1990s, the S&P 500 far outperformed.
    • From January 2000-December 2009, the globally diversified portfolio outperformed.
    • From January 2010-December 2016, the S&P 500 slightly outperformed.

The globally diversified portfolio in this analysis is representative of the portfolios we recommend for our clients, which means they include asset classes like the S&P 500, as well as significant allocations to US large cap value, US small cap and small cap value, US real estate, international value, international small cap value, emerging markets and emerging markets value and small value. The portfolio would also be regularly rebalanced, to maintain the appropriate allocations between asset classes.

While this presentation may be new, the concepts are not. These are some of the guiding principles we have used to construct portfolios since founding our firm in 2003. We have adhered to these principles of global diversification and allocations to small and value stocks. They have proven the test of time, both in the real world as well as in academic data.

Information like this should give you confidence, as we base our recommendations and advice on real data, not on crystal balls or guesses about the future. As the world is changing so rapidly, our approach to investing should help you feel more secure. And be financially rewarding.

We know there is no such thing as a free lunch. But in the financial markets, being globally diversified across asset classes is as close to a free lunch as you can get.


**Source: For this essay, all data presented is based on Dimensional Fund Advisor presentation titled “The Case for Global Diversification” which is available upon request. Various indices were used for this analysis. Fees have not been deducted and the performance does not reflect the expenses of an actual portfolio. See this report and its Appendix for full disclosure information.


What are the right Investments?

The Wall Street Journal stated that 45% of all actively managed stock, bond and other mutual funds were beating their benchmarks as of February 28 (for 2017).

However, that means 55% of these funds failed in their attempt to beat their benchmark. Not too impressive!

Eight years ago, in 2009, was the last year that even half of all active funds beat their benchmarks, according to Morningstar.

In 2016, only 31% of actively managed funds beat their benchmarks.

Let’s explain this, just so you are clear. Active management means that professional money managers who are paid from their clients’ assets try, but cannot consistently outguess and outperform their respective benchmark.

Based on years of industry data like these statistics is why we recommend investing by NOT using active managers. It is a losing game.

Also, if you invest in individual stocks, you should check your portfolio’s performance against an appropriate benchmark, to see how well you are doing.

This is why we utilize asset class stock mutual funds, which for simplicity sake are a version of index funds, and not actively managed stock mutual funds.

Our investment philosophy provides you with a better, proven method to achieve higher returns, at a lower cost and are more tax-efficient, in an uncertain world.

These are some of the advantages of using the asset class stock funds we recommend, over actively managed stock funds:

  • They perform better. Over the long-term, they generally meet or exceed their benchmarks, which is excellent comparative performance. Once you do the research we have done for years, you will appreciate that these type of funds provide you with long-term top tier performance.
  • The mutual funds we utilize provide tax management to provide you with better after-tax returns. It’s not just about performance; it’s about what stays in your pocket, or after-tax performance.
    • Most actively managed stock funds are not cognizant or actively managed to reduce your taxes. The funds we recommend for your taxable accounts are actively taking steps to reduce the tax impact of the fund, if it is tax-managed.
  • They are significantly cheaper than most active mutual funds, generally by at least 1/3 the cost. We can structure a globally diversified stock fund portfolio for approximately .30%. The mutual fund average is 1-1.25%.
    • Why not start with lower costs, if you can, especially if the funds already provide excellent long-term performance records versus their peers?
  • They have far lower turnover. The funds we recommend generally turnover their portfolios far less than industry averages. A fraction of most actively managed funds.
    • Active funds with higher turnover mean more trading costs and it is likely a fund may generate more taxes for their shareholders.
    • Also, if you think about it, if a fund starts the year with a set of “picks” and has 100% turnover during the year, this means they replaced most/all of their holdings. Does that make sense to you?
  • The funds we utilize have a team management approach. Most actively managed funds rely on one or a few managers and unnamed analysts. You may not know when a manager or analyst, who generated ideas, has left or been replaced. The team approach utilized by our funds helps to ensure better long term management, training and experience.

There is a better way. If you are a client, you know that our recommendations give you the best opportunity for long-term success, by providing you with investment funds that have very good long-term performance, at very low costs and are tax-efficient, as applicable.


Source, Wall Street Journal, “Active Managers Make a Comeback,” dated April 3, 2017, which cited Morningstar data.