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C.H. Robinson

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Why We Use Asset Location Strategy

Written by Bruce Primeau, CPA, CFP®, PFS on .

Most people want to know how their investments are performing but what really matters is how they are performing on an after-tax basis. This is important because it is what translates into how much you can actually spend from your portfolio.

At SWA, we have developed an Asset Location Strategy (ALS) that encourages each client to build a globally diversified portfolio utilizing a passive, tax-efficient investment approach. We do this by advocating that clients build measurable balances across account types with different tax characteristics, including:

  • Taxable: Individual or Joint investment accounts, Employee Stock Purchase Plan, etc.
  • Tax-Deferred: 401(k), 403(b), Traditional IRA, Deferred Compensation Plan, Employee stock option plans, etc.
  • Tax-Free: Roth IRA, Roth 401(k) and 529 Plans

As each client adds to each of these tax classes, we install an overall asset allocation that is in line with their tolerance for risk. We manage holdings across all three account types in a manner that strives to maximize after-tax wealth. Here is an example of how a client portfolio with asset location is constructed and managed:

  • Taxable Accounts: We prefer clients own equities in taxable accounts as clients can receive tax-preferential rates for doing so. For example, qualified dividends and capital gains capital gains are subject to Federal tax rates of up to 23.8% (including capital gain surtax) compared to the top Federal ordinary income tax rate of 37%.
  • Tax-Deferred Accounts: Withdrawals from these accounts are generally taxed at ordinary income tax rates. Bonds create ordinary income so our preference is to have clients own bonds in this tax class. Because bond income is taxed at ordinary rates and typically client income is greater now than in retirement (when funds are withdrawn), bonds are typically less desirable to own in taxable accounts.
  • Tax-Free Accounts: Unlike the other two tax classes discussed above, gains from tax-free accounts can avoid taxation (assuming all distributions are qualified). Basically, the first two account types force you to share some of your gains with Federal and, for many of us, State tax authorities. But since Tax-Free accounts (primarily Roth IRA and Roth 401(k)) don't have this tax liability attached, we want clients to overweight them with investments that have the highest long-term growth potential, such as International and Emerging Market Stocks.

NOTE: This is meant as an illustration only and holdings will vary based on individual client circumstances.

Managing a client's portfolio in this manner will undoubtedly result in performance variances between each account due to the fact that what is owned in each account is unique and performs in different ways. For example, in 2017:

  • Most Taxable and Tax-Free accounts in an SWA asset location strategy performed well, which primarily hold stocks. Overall global stock index gained 24.0%1 before fees and transaction costs.
  • Most tax-deferred accounts lagged other tax classes due to heavier weightings in high quality bonds, which gained a more modest 3.5%2, also before fees and transaction costs.

While it might seem more appealing to have each account type invested to the same asset allocation and thus show a similar return each year, this can actually produce a less satisfactory result when taxation is considered.


For example, if each account in the portfolio is invested in the same asset mix, here are a few consequences.

  • Taxable accounts might hold positions in bonds, REITs, etc. which produce ordinary income each year that is taxable at a client's highest ordinary income tax rates. This produces an unnecessary tax drag on this portion of a client's portfolio.
  • Tax-free accounts may grow more slowly over the long term since the bond component held in these accounts is likely to produce less long-term annual returns than equity asset classes. This means you are not maximizing the account type that you don't need to share with the government!
  • Transaction fees to the client are significantly increased by having to purchase every holding in every account, as opposed to having a selected number of holdings in some accounts.

The bottom line is that there are ample reasons for SWA to manage client portfolios the way we do. From a long-term perspective, we believe this is the best way to maximize after-tax wealth and produce spendable cash flow from an investment portfolio. Our goal is to help our clients achieve their financial goals, even if a method might seem unconventional at first.

1Based on the returns of the MSCI All Country World Index NR USD. Source: Morningstar
2 Based on the returns of the BloombergBarclays US Aggregate Bond TR USD. Source: Morningstar

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Don't Be Kanye--Keep Your Personal Data Safe!

Written by Matt Wright, CFA® on .

Kanye West recently met with President Donald Trump in the Oval Office in a highly publicized event. While the general discussion was outside the scope of our role as wealth advocates, one incident during the meeting prompted us to once again remind everyone about the importance of keeping your personal information safe. Mr. West pulled out his iPhone and, on live TV, punched in a password of 000000 to access it.
While it's arguably better than having no password at all, it was clearly chosen for maximum convenience, not security. We can only hope that he is taking more precautions with other private information and his financial security. But are you doing your best to protect your personal information and your financial accounts? Here are a few tips to consider.

  • Use strong passwords. SplashData, an internet security firm, provides an annual list of the most common online passwords showing that "password" and "123456" have ranked at the top each year since 2011. Don't make this too easy for hackers! A strong password is generally longer than 8 characters, but consider that a minimum. And don't use the same password on multiple sites as the hacker needs to only crack one of your passwords and then reuse it on other sites you may use.
  • Consider using a password manager. A common reason why people use weak passwords is that we all have so many of them for different purposes that we can't keep track of them all. Consider using a password manager to reduce how much you need to remember, and it will allow to use unique passwords at different sites. The password manager allows you to create unique, long and very complicated passwords, without the need to remember.
  • Limit who you share information with. While it's unlikely you'll have an opportunity to give away your password on national TV, control who has access to your personal data. Access to your data should be locked (physically or electronically) at all times.
  • Watch out for Wi-Fi. Don't log into accounts on unsecure Wi-Fi connections (for safety essentially everything outside of your home should be considered unsecure). IF you do use an outside Wi-Fi, confirm with the location what the exact Wi-Fi name is. Unfortunately, there are a lot of hackers that are setting up Wi-Fi connections that sound very much like the legitimate Wi-Fi name. At home, set up a guest Wi-Fi network that visitors can use without being able to access your personal home network.
  • Be skeptical about emails and calls asking you to act urgently. Whether it's a call from the IRS demanding overdue tax payments or an email from a financial institution telling you to log in to your account to review something – STOP! If you are uncertain whether it's a legitimate contact, don't do anything right away. If it's possible that the IRS really does want to talk to you, they will mail you a letter so simply hang up. If you are prompted to log in to a financial account, don't click on a suspicious link (consider all links suspicious), instead open a new browser window and go to the website directly.

While it's hard to avoid all risks no matter what you do, taking some of the precautions above might greatly reduce your vulnerability.

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Apply Now for Financial Aid for Post-Secondary School in 2019-2020

Written by Jon Govin on .

If you have children in or going to post-secondary school for the 2019-2020 school year, now is the time to file your Free Application for Federal Student Aid, more commonly referred to as the FAFSA. The filing period begins October 1 each year of the year prior to attending college.

Why complete the form, let alone early? In order to gain access to federal financial aid the student and parents need to complete and submit the FAFSA. And, some schools set priority deadlines for financial aid, first-come, first-served. Some parents ask if it is necessary "to go through the hassle" if they don't expect financial aid because of their high income or assets. The short answer is absolutely, YES, regardless of income or financial assets. Remember, federal financial aid includes federal student loans, which are generally available to anyone. And, while you may not need it now, you never know what the future may hold.

I am no fan to more paperwork, but honestly, this form is not all that complicated and takes far less time than you think. I find the most complicated part to be remembering the password that I only use once per year. The form has been streamlined, and if you file online you can connect to the IRS to pull in your tax return information. And now there is even a phone app called myStudentAid. There are plenty of help buttons in the online FAFSA to explain the questions, or contact your SWA Advisor for assistance.

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Maximizing Tax Savings for Charitable Contributions

Written by Bruce Primeau on .

Well, Congress took their best shot at tax simplification for 2018 and, by doing so, has changed the way many people will make charitable contributions moving forward. For some, itemizing deductions will no longer be necessary as it will be difficult for them to come up with more deductions that the standard deduction amount affords them. For others that have total itemized deductions close to the standard deduction amount, a new opportunity exists. The opportunity I am referring to is bunching multiple year's charitable contributions into one year. Let me show you what I mean:

  • We have a married couple that typically gives about $5,000 to various charities each year. They usually itemize deductions each year, but in 2018 their total itemized deductions will total only $23,000. So, the standard deduction would be their obvious choice each year moving forward. For the next 3 years, their total deductions against ordinary income look like this:
    • 2018: Standard deduction - $24,000
    • 2019: Standard deduction - $24,000
    • 2020: Standard deduction - $24,000
    • Three year total deductions = $72,000
  • If, instead the couple accelerated their $5,000 annual cash charitable contributions into 2018 using a Donor Advised Fund (DAF), their total deductions against ordinary income would look like this:
    • 2018: Itemized deductions - $33,000
    • 2019: Standard deduction - $24,000
    • 2020: Standard deduction - $24,000
    • Three year total deductions = $81,000

By contributing 3 years' worth of charitable contributions ($15,000) to a DAF in 2018, they get the charitable contribution deduction in 2018, despite the fact that they may give that $15,000 away over the next several years (no requirement to give those funds away in 2018). In total, they receive $9,000 more of tax deductions over the next 3 years, which, at a combined federal and state tax rate of 30%, they would save about $2,700 of tax. Not a bad strategy, given the fact that the client is merely accelerating the cash gifts to the DAF.

Another excellent strategy involving a DAF is to contribute $15,000 of appreciated securities instead of cash. The donor receives the same tax deduction and pays no tax on the $15,000 of appreciated securities they donate. This can be a great diversification technique that can save tax dollars in more than one manner (capital gains tax as well as ordinary income tax).

Please let us know if you have any questions regarding this strategy or if you feel it is one you may want to consider.

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Can We Predict the Future? Not in a Million Years!

Written by Matt Wright on .

Deep down, most of us realize we can't reliably predict future events with much accuracy. But the potential rewards of being right are so tempting that business leaders and investors spend enormous amounts of time and effort trying to get an edge over everyone else, despite the odds. While some people, through luck or skill, will find success doing this, it seems unlikely to us that there is a positive payback in aggregate.

Many investment managers engage in portfolio strategies based on their own or others predictions, but SWA does not. Below, we outline two circumstances over the past decade that have had momentous economic significance while being anticipated by virtually no one. It leaves us wondering why others haven't learned from these lessons.

This Interest Doesn't Rate!

Economists discuss many things, but throughout history the idea of a negative interest rate has been a rare topic. Switzerland utilized negative rates in the 1970s as a measure to control its currency value, but outside of that it has been unheard of. Not only that, but up until about 2008 the idea of negative rates was widely considered implausible, notwithstanding isolated cases like Switzerland.

The Global Financial Crisis brought many shocks to the global economy and in its aftermath interest rates throughout much of the world declined sharply. By 2016, there were over a dozen countries that had issued trillions of dollars in government bonds with negative yields. Investors were knowingly locking money into an investment that would pay them back less than they put in – even now it still sounds crazy! Nonetheless, what seemed impossible just a few years earlier is now so common that economists have had to rethink the very concept of the interest rate.

When Oil Hit the Wrong Peak!

Geologist M. King Hubbert proposed his peak oil theory in the mid-1950s. The general idea was that oil production in the U.S. would peak in the late 1960s and then decline rapidly. Other countries would see similar patterns at different times and indeed, the world as a whole must experience the same thing at some point. For a global economy heavily dependent on petroleum, some forecasters foresaw economic disaster as oil prices would soar as supply fell off.

The trouble, as always, is getting the timing right. A little over a decade ago, it appeared that global oil production may finally be reaching its peak. In addition, with China's massive construction spree gobbling up commodities in the early 2000s, demand for oil was growing stronger. The conditions appeared to be in place for a huge spike in oil prices, potentially devastating the global economy.

In just a few years' time, the story has been completely flipped on its head. First, the Global Financial Crisis and the resulting slow economic growth rates throughout much of the world has put a dent in demand. In addition, a divergence in oil consumption began around the same time, caused by a slow but steady shift to alternative fuels. Developed economies such as the U.S., Eurozone, and Japan have actually seen net oil consumption flatten in recent years, while developing economies continue to increase consumption. However, the trend towards alternative energy is expected to continue to accelerate and eventually reduce demand across the globe. Forecasters are now, in fact, talking about peak oil demand possibly peaking at some point in the coming decades. This notion was not anticipated by the peak oil production theories.

Even Hubbert's original idea has run into trouble. His prediction of U.S. oil's peak and decline was reasonably accurate from around 1970 up to about 2010. But then an astonishing change swept in, causing U.S. oil production to surge past the levels last seen almost 50 years ago. Due to improved technology and techniques, the U.S. shale oil industry was transformed from a relatively minor source of oil a decade ago to a massive contributor to global oil production today.

Of course, we can't really fault Hubbert for not seeing this coming back in 1956, but that's kind of our point! Even modern oil industry experts didn't see it coming until it had pretty much arrived. This oil has literally been sitting in the ground for millions of years, but the ability to determine how readily we can get it out of the ground and how much of it we want to use can shift dramatically in a short time. The peak oil theory was busted on both the supply and demand side in the past decade - remember that the next time you see a talking head on a business channel confidently predict next year's oil price!
It's hard to understate the immense changes in economic thought we've seen in just the past decade. Since almost no one saw these changes coming then, why would we have any confidence that anyone will get it right this time?

If you've come to realize the folly of investing based on predictions but need help getting on a more rational path, contact us today.

North Metro: 763.355.5873
227 East River Parkway
Champlin, MN 55316-5873

South Metro: 612.987.9112
5871 Crossandra Street SE
Prior Lake, MN 55372-3337

West Metro: 763.639.3425
322 Greenhill Lane
Long Lake, MN 55356

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