Tax-Deferred Investments to Protect Capital Gains

Corporate and capital gains taxes are going up. Sure, there’s a debate going on about exactly what the numbers will be, but trust and believe that they’ll be much higher going forward than they have been for the past few years. It’s time to look at some tax-deferred investments.

Thankfully, the tax increases of 2021 could very well be reversed in 2025. That’s how democracy works. Administrations come and go. Rules and regulations change. What I’m looking for is a short-term tax-deferral strategy to protect my capital gains.

Maxing out my retirement accounts is a no-brainer. Being self-employed, I don’t have a 401(k) plan to drop $19,500 a year in, but I can contribute $7,000 to my Roth IRA since I’m over fifty. I had hoped there would be an increase on that limit this year, but I’ll take what I can get.

Multifamily Real Estate is On My Radar

It’s a terrible time to buy a house because property values are overinflated right now. Multi-unit residential buildings are not in that same category. Though somewhat overpriced like single family homes, they have an income component which increases with inflation.

I don’t buy into the Fed telling us that there won’t be an adjustment to interest rates. They might hold off for the rest of this year, but I fully expect an increase soon. Inflation will bury us if that doesn’t happen. Have you checked the prices at the supermarket recently?

With a multifamily property, rents go up along with everything else when inflation is high. I can also defer any capital gains on the property by reinvesting my rental income. There’s always the option of refinancing later to get capital when the capital gains tax rate comes back to earth.

The same rules could apply for a commercial property, but tenants are harder to come by. Rather than buying a building, I buy stock in the commercial real estate space. I’m currently looking at NexPoint (NREF) and CoStar Group (CSGP). Both are buy-and-hold plays.

Annuities will Make a Comeback in 2021

Once considered one of the better tax-deferred investments, annuities have gotten a bad rap in recent years because of the fee transparency movement in financial services. Yes, they are commission products for advisors. Get over it. They still work.

I won’t personally buy a fixed annuity because I’m allergic to bonds. I get physically ill when I think about a rate of return that doesn’t beat the rate of inflation. Variable annuities on the other hand, which are pinned to mutual fund performance, are appealing to me.

Here’s the bad news for all my Robinhood readers. You can’t buy an annuity there. You’ll have to contact an insurance company directly or hire a real financial advisor. Oh, the horror! You might just get some advice from a real professional instead of an online forum.

Investing Dividends in a Tax-Advantaged Account

Dividends are taxable, whether you reinvest them or not. Taking dividends as a cash payment may be tempting, but you’re better off investing them in an IRA. The money will continue to grow for you, and you won’t be subject to a capital gains tax on that growth.

Pennies add up. Many investors ignore dividend notices and seem surprised when they get a 1099-DIV at the end of the year. If you’re heavily invested in dividend stocks, the number on that tax form could be significant. That’s money that could be earning for you.

I have a Robinhood account myself and I use watchlists for certain sectors or categories of stock. There are five dividend stocks on my watchlist today and they’re all up:

  • Extra Space Storage (EXR)
  • Safety Insurance Group (SAFT)
  • Prudential Financial (PRU)
  • Artisan Partners (APAM)
  • Merck (MRK)

Ironically, my FAANG stocks, which have been a mainstay for me in recent years, are all down today. If this were the fourth quarter, I might be tempted to do some tax loss harvesting, but that’s a topic for another time. I’m buying today, not selling.

Mutual Funds versus ETFs for Long-Term Investing

Capital gains aren’t taxable until they are realized, so one of the simplest ways to avoid the new tax is to hold what you own. Don’t sell. Set your mind to buy and hold for the long term. That’s what I’m doing right now. I’m diversified enough to not worry about a few losers.

As for the choice between mutual funds and ETFs, I view the latter as a new and improved version of the former. ETFs are not actively managed, but they can be used to monitor sectors and indexes. They can also be sold mid-day if I need extra cash.

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About the Author

Tax-Deferred Investments to Protect Capital Gains

Kevin Flynn

A former financial professional and founder of AdvisorScale Financial Writing, Kevin lives in Leominster, Massachusetts with his wife Evelyn, two cats, and nine wonderful grandchildren.