Financial Planning Tips to Prepare for State Wealth Tax Proposals
With proposed wealth taxes in Hawaii and Washington State, high-net-worth investors should consider the potential impacts on their financial plans and evaluate the need for strategic adjustments beforehand.
Explore answers to important questions regarding wealth taxes and potential impacts to cash flow, investment, estate, and other wealth planning.
What’s the Difference Between a Wealth Tax and Income or Capital Gains Tax?
Income and capital gains taxes are levied on earnings at the time of receipt or realization, whereas a wealth tax would be a perpetual annual tax. The wealth tax proposals for both Hawaii and Washington would be calculated each year based on the total amount of assets an individual owns, regardless of asset growth.
What Would the Wealth Tax Look Like?
Hawaii and Washington are approaching their wealth tax differently, with the proposals targeting individuals with over $100,000,000 in financial intangible assets in Washington and over $20,000,000 in total assets in Hawaii. Further details are as follows.
How Could the Wealth Tax Impact My Financial and Estate Plan?
A key function of your financial and estate plan is to preserve and increase multigenerational wealth in support of your goals and aspirations, including the all-important tax considerations. With these proposed wealth tax laws, you should consider the following:
- Spending goals
- Liabilities
- Trust asset exposure
Spending Goals
Any financial plan should include well defined spending goals and liabilities. These equate to what an individual will withdraw from their assets, can be onetime or recurring, and need to be supported by sufficient assets and cashflow that are supported by a target growth rate.
Given the potential wealth tax implications, individuals that qualify will need to include this as an additional withdrawal item and estimate its amount based on asset growth year over year.
Liabilities
The liability discussed above would need to be paid every year, which requires liquidity.
Portfolio assets can have varying degrees of liquidity or accessibility. Liquidating assets at the wrong time could lead to selling at a significant discount and drag down long-term returns.
Trust Asset Exposure
Assets held in trust may have different exposure to the wealth tax depending on the underlying beneficial ownership, interest, and ability to recoup funds from the initial grant, amongst other trust specifications.
Moving assets into trust or expediting gifts could impact accessibility of those assets. Incorporating your estate plan and asset titling considering a possible wealth tax could be important.
To Which Assets Would the Tax Apply?
A number of assets could be affected by these proposed wealth taxes. Here are some strategic considerations for your portfolio considering the proposed laws.
Bonds
Assets, such as US Treasury bills and Washington State municipal bonds, are projected to be exempt. Diversifying into assets of this nature could help mitigate the tax. There would be a potential trade-off to consider, though.
Ask yourself if you’re selling higher growth assets simply to avoid the wealth tax. The net effect of maintaining these high growth assets could still leave an investor better off even after the tax.
Nonfinancial Assets
Other nonfinancial assets may also be exempt but carry much different liquidity and accessibility characteristics. Examples of these assets include:
- Trademarks
- Patents
- Copyrights
These assets are extremely illiquid and require an investment team that's familiar with accessing and allocating these types of assets. Alternative and private assets can have a place in one’s portfolio, but appropriate liquidity planning will help not to sacrifice your cashflow needs for the sake of avoiding tax.
Residency Transition
Residency transition is often considered prior to or because of a transaction event in a high capital gains tax state or a wealth tax state. However, residency transition is much more intensive than simply being in another state 51% of the year.
Working with an experienced wealth management and tax team to ensure the proper considerations are made to transfer your residency, is key to success.
Costs associated with residency transition need to be factored into whether the decision is impactful on a net basis. Costs of this nature could include:
- Cost of living changes
- Liquidation or acquisition of properties
- Where current assets may be domiciled
Once again, the decision to move may be financially and emotionally more costly than the potential wealth tax.
Given the high enforcement potential, efficient, proper, and legal planning is the ultimate recommendation, instead of trying to get too crafty or remain ignorant.
How Can a Wealth Manager Provide Aid?
Wealth planning is dynamic. As your circumstances and tax laws evolve, your plan evolves too. Your financial advisor can help you navigate what the potential new laws could mean for your tax bill, investment returns, cash flow, and your legacy.
Your financial advisor can also help you explore the following in the context of your unique circumstances:
- Alternative asset placement
- Analysis of allocation changes on future growth
- Impact of tax liability on your estate plan
- Residency transition analysis
- Cashflow modeling to assess liquidity needs for liability payments
We’re Here to Help
If you have questions about potential wealth taxes in Hawaii, Washington State, or elsewhere, please contact your Moss Adams professional.