For the nation, 2020 has been one of the most difficult years in memory. We are grappling with COVID and its fallout, economic upheaval, racial tensions, wildfires, hurricanes, a presidential election, and a polarized electorate.
Despite this year’s difficulties, very low inflation, record low interest rates, and an aggressive stance by the Federal Reserve have helped the major market indexes rebound from March’s steep sell-off. But it’s no time for complacency. There is a huge disconnect between the overall economy and the stock market. If all we listen to are the pundits reading the latest market moves on the evening news, it is easy to fall into the traps of FOMO on the good days and stress on the bad. It is easy to forget that ultimately, the market and the economy are inextricably linked.
I readily admit that I, along with many others, was quite surprised by the degree and the duration of the market rebound. It is as though the market has ignored the prospect of future earnings that may not recover for many years, if at all, for some businesses. Perhaps with interest rates near zero, investors are thinking stocks are the only game in town.
So where do we go from here? First, we should all remember no one has a crystal ball. Any stock market forecast that you may hear from analysts is simply an educated guess. Wall Street analysts, in the role of supporting their firm’s sales processes, have a bias toward painting an optimistic picture. They may get lucky for the right or the wrong reason. They have also been known to miss the mark by a wide margin. As we already know, even the smartest folks in the room don’t know the future.
As I write this, it appears that Biden will be our President, the House of Representatives will remain under Democratic leadership, and the Senate possibly equally divided. It is reasonable to expect that fiscal largesse will be in play no matter who is in control. According to economist Dr. Woody Brock, if there is a Biden victory, it is reasonable to expect that by the end of 2021, GDP will be 9 percent less than it was in February 2020, 6 percent less by year-end 2022, and 2 percent less by year-end 2023. He does not project a V-shaped recovery to the economy.
Certainly, over long periods of time, the market has an upward bias. But we must also remember that the stock market recovered quite rapidly after the Crash of 1929 only to begin a long and tortuous decline that lasted several years. We are not out of the woods by a long shot.
5 Steps You Can Implement Today
The end of the year is fast approaching. As the calendar moves toward 2021, let’s keep in mind that there are several ideas we should review as you work to get your year-end financial house in order. You should check with your tax advisor, as various nuances can crop up. As always, we would be happy to assist you.
1. Did you max out your retirement accounts? You can put up to $6,000 into an IRA in tax year 2020; $7,000 if you are 50 or older. You will have until Tax Day to make a 2020 tax-year contribution. The sooner you contribute, the longer your assets can grow tax deferred. For those of you who cannot take a deduction for the IRA contributions, you should consider a back-door ROTH contribution.
Contributions to your 401(k) are automatically deducted from each paycheck. Contributions for tax year 2020 must be made by the end of the year to count against 2020 income. Some people who have not maxed their contributions could have their entire final paycheck withheld and contributed to their 401(k). The 401(k)-contribution limit is $19,500 for 2020, and the catch-up limit is $6,500.
Your employer or plan administrator will let you know if you can adjust changes to your contribution this year. As we have said in the past, we strongly suggest that you contribute the minimum amount necessary to receive your entire employer’s match. It’s free money. Don’t leave free money on the table.
2. This year’s RMD wrinkle—if you are 72 (or turned 70½ before January 1, 2020), you are usually obligated to take a required minimum distribution (RMD) from your IRA, but this year is an exception. Thanks to the CARES Act, the RMD is waived in 2020. This applies to everyone with a 401(k), IRA, 403(b) or 457(b) account. Owners of inherited IRAs may also suspend RMDs for 2020.
3. If you are over 70½, you may be eligible to transfer up to $100,000 from your IRA to a charity without paying taxes on the distribution. This is called a qualified charitable distribution or QCD. Moreover, a QCD satisfies the RMD requirement if certain rules are met.
4. Let’s consider “harvesting” tax losses (or even gains). Do you own stocks, exchanged-traded funds, or mutual funds that are below the purchase price? If so, you may sell by the end of the year and offset up to $3,000 in ordinary income or capital gains.
However, please be aware of the “wash sale” rule and treatment of long-term and short-term losses. The rule defines a wash sale as one that occurs when an investor sells a security at a loss and, within 30 days before or after the sale, buys a “substantially identical” stock or security. If so, the IRS disallows the loss.
5. Consider converting your traditional IRA to a Roth IRA. Depending on the outcome of the election, tax rates may rise next year and even without any Congressional action they are scheduled to rise in 2026. Therefore, converting a traditional IRA into a Roth IRA this year would require taxes to be paid at 2020’s rate, but it would enable the account holder to withdraw funds without paying federal taxes at retirement. Whether or not tax rates rise next year, a Roth IRA is an excellent retirement vehicle.
Let me remind you that these year-end financial planning steps are guidelines. One size does not fit all. The advice we recommend should be tailored to your specific needs and goals. We would be happy to entertain any questions that you may have. We are simply a phone call or email away.
Scott Neal is president and CEO of D. Scott Neal, Inc., a fee-only financial planning and investment advisory firm with offices in Lexington and Louisville. He blogs at dscottneal.com and can be reached by calling 1-800-344-9098 or email to scott@dsneal.com