Profiting During a Bear Market: How to Help Clients

Profiting During a Bear Market: How to Help Clients

Bear markets and corrections are inevitable facts of life for investors who put their money in anything that doesn’t have a principal guarantee. But you can make your clients see the silver lining in market downturns by using a few simple strategies.

Those who are able to help their clients capitalize on the opportunities that come when the chips are down can gain credibility and grow their businesses when their competition may be losing theirs. Here are some tips. (For related reading, see: Tips for Helping Clients Through Market Corrections.)

Tax Loss Harvesting

If you have clients who are holding losing positions that they intend to keep for the long term, this is the time to explore the possibility of generating capital losses to net against capital gains or other income. This is a fairly straightforward process as all it requires is for the client to sell some or all of the losing position and then buy it back again. But your clients must wait at least 31 days before buying the stock back in order to satisfy the IRS' wash-sale rule, which mandates that like kind securities cannot be bought back within 30 calendar days after the sale of a security if the investor intends to declare the resulting loss on his or her tax return.

If the security is bought back within this period, then the loss will be disallowed by the IRS if it audits the return. But those who follow the rules can reap a valuable capital loss that can be used to reduce any type of capital gain up to the amount of the loss. If the loss exceeds all of the net capital gains for the year, then up to $3,000 of it can be deducted against ordinary income each year until it is used up.

An Example

John buys 1,000 shares of ABC Company at $55 a share. The stock has dropped to $20 a share, but John feels that it will turn around when the company’s new product comes out. John sells the stock on November 15 and buys it back at the end of December for $22 a share. He also sold three other lots of stock at a substantial profit and realized $25,000 of long-term capital gains for the year. His loss will be netted against his other income as follows: (For related reading, see: Using Tax-Loss Harvesting to Save Your Gains.)

$55,000 - $20,000 = $35,000 capital loss

$35,000 loss - $25,000 gain = $10,000 net loss

John can declare $3,000 of his remaining $10,000 loss against other ordinary income. The remaining amount of loss can be declared in future years.

Roth Conversions

If your client has balances in traditional IRAs or qualified plans that need to be converted to Roth IRAs, a market downturn is the ideal time to do this. If the client’s traditional IRA was worth $60,000 last year and has dropped in value to $45,000, then he or she will save paying tax on the amount of the reduction if they convert it.

This can be a doubly effective strategy if your client has been unemployed for part or all of this year and will have tax credits or deductions that will otherwise go unused. Those tax breaks can instead be used to reduce or eliminate the tax bill from the Roth conversion. Although this won’t put any money in your client’s pocket at the moment, it will be a huge step forward for him in his retirement plan.