Given the volatility we have experienced in the stock market since the beginning of February, I thought I would share with you some Capital Market Commentary from FCI Advisors titled NORMAL AND NECESSARY. We have been using the Advisory services of FCI Advisors, among others, for a while.

Normal and Necessary
The equity markets began 2018 focused on the prospect of rising corporate earnings driven by tax reform and enhanced economic growth. After rising nearly 22% in 2017, U.S. stock prices rose another almost 8% in uninterrupted fashion over the first 18 trading days of 2018. As companies announced their fourth quarter earnings over the course of January, many reiterated the positives they would see as a result of the tax cuts. Corporate earnings estimates began to be revised upward to match the more positive tone coming from Corporate America. A narrative developed that the earnings growth achieved in 2017 would continue, and even potentially grow stronger, in 2018. All of these positives culminated in a strong month of January for the equity markets.

However, though they have acted like it over the last 15 months, equity markets in particular are not "take out windows." Like human beings that must inhale and exhale, markets also must inhale and exhale. Though the long term bias of equity markets is undeniably upward over time, markets do fluctuate and when they do recede they tend to correct at a faster pace than when rising. In fact, there is an old adage that "stock markets take the escalator up and the elevator down."

The equity markets experienced a very positive 2017 with abnormally low volatility. The largest peak to trough decline last year was only 3%. It is more normal to experience a decline at some point in a year of 5% to 10%. These occur to correct overbought conditions where the market simply gets ahead of itself. Market actions such as this are necessary to remind investors that equity investing is not without risk. In fact, it is the risk inherent in equity investing that allows for above average returns to be earned by long term holders of equities relative to holders of bonds and cash. Corrective moves of 5% to 10%, or even 15%, do not necessarily signal the beginning of something more severe, such as the next bear market, particularly in a positive economic environment such as we have today.

History can be instructive in analyzing current events. Shortly after the 2003 tax cut, yields on the 10-year Treasury increased sharply as economic growth was repriced into the fixed income market. As a result, equities suffered a sell-off of approximately 4.5%. However, once the surge in yields had ended, stocks reversed course and rose by approximately 15%. Today, technological advances within the stock market structure can contribute to market volatility. These seemed to be a factor in the move on Monday, particularly late in the day as traders, not investors, who were speculating in certain strategies designed to take advantage of low volatility were forced to unwind their positions.

The market movements over the last couple of days should be seen as normal and necessary elements in a stock market cycle. They have not caused us to change our long term outlook. The fundamentals which drove the equity market last year are still in place and look even better given the new tax policies. In evaluating the interest rate environment, we will continue to watch the Fed’s communications.

Market actions such as this are necessary to remind investors that equity investing is not without risk.

Ira J. Brower, Founder
Frank died in 2012. His estate elected the deceased spousal unused estate tax exclusion (DSUE), in an amount of $1.2 million—or the "portable" estate tax exemption, as it is more commonly referred to by nonlawyers. An estate tax return was filed showing no estate tax due, and the IRS sent a closing letter to the estate.

Frank's surviving spouse, Minnie, died in 2013. Even with the additional exclusion, her estate was large enough to trigger a federal estate tax of over $700,000. Minnie's estate tax return was selected for audit. She and Frank had made taxable gifts of nearly $1 million about ten years before they died. The gifts had been reported properly on gift tax returns when they were made, but apparently the taxable gifts were not handled properly on the estate tax returns. More than three years after Frank's death, the IRS took another look at his estate tax return, and it determined that the DSUE should have been much lower, by about $1 million. That didn't change the estate tax for Frank's estate, but it did boost taxes for Minnie's estate, to the tune of another $788,165.

Before the Tax Court, Minnie's estate argued that the IRS was barred from reexamining Frank's estate tax return, either because of the three-year rule or because a closing letter had been issued. Neither reason is applicable in this case, the Tax Court held. The section of the tax code that grants the taxpayer's right to claim an unused exclusion amount also explicitly gives the IRS the power to re-examine the facts giving rise to the exclusion without regard to any time limits whatsoever. The estate tax deficiency was upheld.

The advent of the portable exclusion has been a boon to married couples in their estate planning, as they can double the amount of the federal exclusion without resorting to multiple trusts. However, the lack of finality over the value of the DSUE is a lingering problem that deserves legislative attention.

(February 2018)
© 2018 M.A. Co. All rights reserved.
1. Trusts to grow on.  Trusts can provide professional management for assets set aside for young beneficiaries. The management can continue, if desired, even after a beneficiary reaches age 18 or 21.

2. Continuing help for a disabled individual.  With proper planning (qualified legal guidance is a must), a trust can provide extra support and some of life’s comforts without disqualifying a disabled person from receiving government assistance.

3. Marital bequest to a noncitizen spouse.  Anything that a married person leaves directly to his or her spouse will qualify for the estate-tax marital deduction—unless that spouse is not a U.S. citizen. In that event, a special marital trust is required to preserve the marital deduction.

4. Gaining the marital deduction without disinheriting children.  Individuals with children from a prior marriage may qualify assets for the marital deduction by means of a trust that pays lifetime income to the surviving spouse, then passes its assets to the children.

5. True tax savings for the married.  The marital deduction only postpones estate taxation until the death of the surviving spouse. The precise potential for savings depends upon the years of death. For example, through 2025 every individual has about $11.2 million worth of exemption from the federal estate and gift tax. In 2026 the exemption falls to about $5.6 million, plus inflation adjustments.

Call on us to learn more!

(February 2018)
© 2018 M.A. Co. All rights reserved.
The earlier that you make your IRA contributions, the longer they will grow. So, under that theory, you should have made your IRA contributions for tax year 2017 some 12 months ago! But if you didn’t, it's still not too late.

The IRA was born in 1974, in the Employee Retirement Income Security Act (ERISA). Employers already received tax deductions for setting aside money for the retirement of their employees. The idea was to extend that privilege to workers themselves, if they weren't covered already by an employer plan. IRA eligibility was expanded to all Americans with earned income in 1981, but the IRA deduction was later taken away from higher-income taxpayers. In 1997 the Roth IRA variation was introduced. There's no upfront tax deduction, but if conditions are met all of the distributions from the Roth IRA are tax free. Finally, a number of simpler employer retirement plans have been built upon the IRA foundation.

Tax diversification

The tax deduction for the traditional IRA contribution is welcome. It makes funding the IRA easier, especially when times are tight. But eventually the music has to be faced, and taxes must be paid.

The alternative is to have some money in Roth IRAs, where the income tax has been prepaid. This can create greater flexibility and control of the tax effects of a retirement income stream. Also Roth IRAs are exempt from required minimum distributions during the owner's life.

Multiple minor accounts

Have you set up several IRAs over the years at different financial institutions? Are you swamped by statements for the many accounts?

Consolidation of your IRAs in a single account will simplify your financial life. You'll have just one statement to contend with, and one account to review for investment decisions. Maintenance fees may be reduced as well.

The consolidation process need not be complicated. We’ll be happy to help if you wish to take this step.

Investment incoherence

Your IRA investments should be reviewed in the context of all your investments, including 401(k) accounts and taxable savings. You want to have one asset allocation plan for all of your holdings, not a separate plan for every account. Having multiple accounts does not provide you with investment diversification if all the accounts are invested in the same way.

If you are unsure of the best investments for your IRA, seek professional guidance. Doing nothing, taking the IRA investments for granted, is not a good solution.

Check your beneficiary designations

Have circumstances changed since you specified a surviving beneficiary for your IRAs? Has there been a death, a birth, a marriage or a divorce? You might be surprised at how often IRA designations are overlooked during a divorce.

A substantial increase in wealth also may be an occasion for changing an IRA designation. For example, if a surviving spouse no longer will need the IRA for retirement security, it may make sense to tap the IRA for charitable bequests. Such a move may save on estate taxes, inheritance taxes, and income taxes after death.

The IRA designation needs to be reviewed in the context of the overall estate plan. IRAs may be subjected to estate and inheritance taxes, and distributions from inherited IRAs (but not inherited Roth IRAs) may be subject to income taxes as well. All these taxes can eat up this asset pretty quickly, so thoughtful planning is a must. It may be appropriate, for example, to shift the burden of tax payments to the residue of the estate, instead of invading the IRA to make the payments.

(February 2018)
© 2018 M.A. Co. All rights reserved.
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Because of the rapidly changing nature of tax, legal or accounting rules and our reliance on outside sources, Garden State Trust Company makes no warranty or guarantee of the accuracy or reliability of information contained herein nor do we take responsibility for any decision made or action taken by you in reliance upon information provided here or at other sites to which we link. ©2017. All rights reserved.