I’m not big on new year’s resolutions. But January is a good time to conduct some financial housekeeping. Below are 10 ideas to consider as the calendar turns over.
1. Portfolio cleanup. I sometimes feel like a broken record when I talk about the disadvantages of actively-managed mutual funds. Among other issues, they tend to underperform and are tax inefficient. But here’s the challenge: Even including this year’s decline, the S&P 500 has risen more than 600% since the market bottom in 2009. As a result, even mutual funds that have lagged the market may still have substantial gains. If you hold a fund like this in a taxable account, it presents a challenge: If you hold onto it, there’s a better-than-even chance it will underperform and burden you with unnecessary taxes. On the other hand, if you were to sell it, you’d guarantee yourself a taxable gain.
This difficult choice often leads to inertia. Investors hang onto funds like this because they hate the idea of intentionally incurring a gain. My recommendation: Don’t view it as an all-or-nothing decision. Make a plan to sell a little each year. To give some structure to this decision, you might set a capital gains “budget” for your portfolio—limited to, say, 0.5% or 1% of your portfolio’s value each year. Then you can slowly work your way out of undesirable holdings like this.
2. Portfolio checkup. The new year is a good time to conduct a risk audit on your portfolio. In addition to reassessing your asset allocation—the split between stocks, bonds and other assets—you’ll want to audit the risk level of individual holdings. A few years back, brokers including Vanguard decided to ban certain types of investments, including leveraged and inverse exchange-traded funds, in their clients’ accounts. That was a clear verdict on the inherent riskiness of these investments. But most investments don’t come with a warning label. In general, my litmus test is to ask whether you could explain a given investment to a ten-year-old. If a holding is so complicated that you can’t explain it in simple terms, it may warrant a closer look.
3. Interest rate upgrade. Just 12 months ago, there wasn’t much difference between bank checking accounts, money markets and Treasury bonds. They were all offering virtually no interest to savers. But that all changed in 2022. While the Fed’s seven rate hikes inflicted pain on the bond market this year, the outlook going forward is much more positive. Short-term Treasury bonds are now paying about 4.7%. Even online savings accounts, such as those offered by Ally and Capital One, are paying 3.3%. Many traditional banks, though, have been dragging their feet and are still paying next to nothing on savings. If you have a material amount of cash in the bank, this is a good time to investigate some of these higher-yielding options.
4. Tax strategies. No matter what stage you’re at, there are always tax strategies to consider. As your financial situation evolves, though, the set of relevant strategies will change. If your income is rising, for example, it might be worth looking at new charitable giving strategies or increasing the amount you’re deferring into retirement accounts. On the other hand, if you’re later in your career and reducing your hours, it might make sense to switch to a Roth 401(k), if your employer offers that option. And finally, if you’re in the early years of retirement, a Roth conversion might make sense. Since the tax clock resets each January, this is a perfect time to look through the toolbox of tax strategies.
5. New rules. Once again, in the final days of the year, Congress passed, and the president signed, a host of new tax rules. For the most part, these are positive changes, opening the door to new strategies and providing greater flexibility on existing strategies. Among the changes: increasing the age at which required minimum distributions must begin, allowing for the rollover of (some) unused 529 college savings funds into a Roth IRA and increasing contribution limits on tax-deferred accounts for those age 50 and older. There are many other changes, too numerous to list here. To learn more, I recommend two excellent summaries, one on HumbleDollar and one on Kitces.com.
6. Prepping for a rainy day. As the new year rolls around, it’s worth revisiting your insurance needs. Two of the most cost-effective types of insurance are umbrella and term life. Because they cover relatively low-probability risks, it’s easy for insurance companies to offer substantial coverage at reasonable rates.
Another recommendation: Put together a “just in case” list. If something were to happen to you, this list would provide a roadmap of sorts to your finances. And it would provide your family with other important information, such as the password to your phone. There are various ways to put together a list like this. I’ve seen some families create a Google Doc and share it with family members. Others keep it on paper somewhere in their home and have informed family members and trusted advisors where to locate it. Finally, I’ve assembled a PDF template, which you’re welcome to download.
7. Custodial provisions. If you have minor children, the most important estate planning task, in my opinion, is to name a custodian who would take care of your children if something were to happen to both parents. Just as important is to periodically review these choices. That’s because things can change. If your chosen custodian moved, for example, or got sick, you might want to consider a substitute.
8. Account beneficiaries. If you have a retirement account, such as an IRA or 401(k), you probably chose beneficiaries when you opened these accounts. But as noted above, things change, so it’s important to review beneficiary designations regularly. The same applies to life insurance policies. Less well known is the fact that you can set up beneficiary designations on non-retirement accounts. This mechanism is known as transfer-on-death and can help your estate move through the probate process more quickly.
9. Mindful spending. Author Ramit Sethi uses the term “money dials” to help people think about their spending priorities. He has ten dials. Among them: travel, generosity and convenience. Something I’ve found is that, over time, our budgets have a tendency to drift away from our values. That’s because, as the saying goes, life happens. We get busy and don’t always stop to think about how the pie is being divided. Sethi’s recommendation is to slow down and take time to take stock.
10. Tuning out nonsense. In 1973, the Italian singer Adriano Celentano released a song with the unusual title “Prisencolinensinainciusol.” That’s not Italian; it’s gibberish. But if you listen to the song, you might find that it sounds a lot like English. That was Celentano’s goal, and it became a huge hit in Europe because it sounded like an American song.
This relates to my final recommendation for the new year. Listen to the news on any given day, and you’ll hear no shortage of financial commentary. Market experts opine on everything from the economy to the market to individual stocks. But here’s the problem: While this commentary is often very articulate, the reality is that financial markets are driven by too many variables to really be predictable. That makes most of this commentary effectively useless. Like Prisencolinensinainciusol, it might sound like it makes sense, but listen critically, and you’ll discover that a fair amount of it is really just entertainment. To make financial progress in the new year, I suggest tuning out these market experts and instead focusing on things over which we have more control.