The number 1040 carries positive associations for few people. But financial advisors can be exceptions to this rule.
Client tax returns are a trove of information that, when properly analyzed, can help advisors expand the range of services they provide to key clients. With tax season a few weeks behind us, now is a good time to use the fresh tax returns as a basis for revising clients' financial planning initiatives.
The first step in this process is obtaining the tax documents. Ideally this happens well in advance of an actual meeting with the client. The intervening time gives an advisor the opportunity to review the return, to develop discussion points and to formulate recommendations.
Obtaining returns from existing clients rarely requires more than a formal request, but procuring such documents from non-clients could be trickier — unless the advisor has a relationship with a CPA who can gather qualified customers. The business-expanding benefits of such a relationship can hardly be overstated. By working closely with a number of CPAs, advisors can distinguish their practices from the competition by providing an integrated approach. The payback comes in the form of customer leads.
Return in hand, analysis can begin. Opportunities generally fall into the following categories:
Most people will require about 80 percent of pre-retirement income to maintain their standard of living upon leaving the workforce. Using the information from Line 7 (wages, salary, etc.) an advisor can calculate a client's current position on the savings continuum and determine if the amount he is contributing to the retirement nest egg is sufficient given the current salary. If not, the door opens to recommend a way to help bolster retirement savings — whether through qualified/non-qualified plans or after-tax savings vehicles.
In addition, examine Line 21 (other income) for signs of additional sources of income, such as consulting fees. In some cases, there might be an opportunity to establish supplemental retirement savings plans. Also look to see how the W-2 income compares to prior years. If this year's features a sharp spike upward, find out why. Has the client exercised non-qualified stock options, payment from a deferred compensation program or an additional bonus? All these may indicate cash awaiting investment.
Lastly, look to see if the client has paid excess Social Security (Line 65) or moving expenses (Line 28). Either of these may indicate that a job change, which could present an opportunity for a 401(k) rollover to an IRA.
Line 6c (Dependents) lists the number of children in the household, which, of course, suggests what level of college planning the client needs. With the rising cost of college, be sure the client's financial plan addresses college expenses as soon as possible. Regardless of how President Bush's proposed savings plans shake out, 529s will remain valid places for clients to put aside assets to cover college costs.
Schedule A, Lines 15-18, provides details on a client's charitable contributions. Based on this information, the client might be a suitable candidate for a charitable reminder trust or other wealth transfer tools. Such products can lead to multi-generational financial planning opportunities.
Schedule A, Line 1, includes medical and dental expenses. Parents or grandparents may be able to reduce their taxable estates by paying these expenses on behalf of your client. Remember: Such payments must be made directly to the institution to avoid gift tax.
Using Schedule E, determine if the client has rental property, income from an S-Corporation or an LLC. These assets tend to be illiquid and present solid opportunities for financial planning.
Finally, does the client have trust income? If so, there might be an opportunity to provide trust administration or investment management.
Review Schedule B, Parts I and II to see where interest and ordinary dividends are derived. If a large portion comes from only one or two securities, there might be a need for greater diversification. If the portfolio is overly concentrated in an equity position, discuss the options — hold, hedge, monetize or sell. Conversely, if there are an inordinate number of securities, a fragmentation issue could exist.
Based on the client's age, or the presence of elderly parents/relatives in the Exemptions section of the 1040 (Line 6c), there might be a need for long-term care insurance. Self-employed clients should also consider the benefits of purchasing disability insurance.
Schedule A, Line 10 shows home mortgage interest payments. With interest rates at 40-year lows, a client may be a candidate to refinance his or her existing mortgage. Also talk to clients about their current credit card balances, as a home equity loan could help lower their interest payments.
Uncovering “Hidden” Assets
There are a number of ways to determine if a client has “hidden” assets — that is, money you do not manage. For example, Line 16 displays rollover activity. Line 41 (Alternative Minimum Tax) may indicate the exercising of incentive stock options. Schedule A, miscellaneous itemized deductions, would list investment advisory fees that are not attributable to your services. Schedule B, Parts I and II, list interest and ordinary dividends from securities owned.
Susan L. Hirshman is vice president at JPMorgan Fleming Asset Management. jpmorganfleming.com