MoneyDo: Disciplined Investing: Follow an Annual Rebalancing Plan


This week’s MoneyDo tasks a key component of wealth management – rebalancing your portfolio.  Don’t let the crush of holiday have-to’s and shopping lists crowd out this critical “MoneyDo.”

2020 certainly has been a crazy year which holds true for the financial markets as well.  As the market has ebbed and flowed, the value of your individual positions inside your investment portfolio has changed too.  In past articles we have discussed risk tolerance, time horizon and asset allocation suggesting how to structure your portfolio.  As time marches on, expect your portfolio to drift away from the amount of risk you are comfortable with.

As a simple example:  Let’s say you started the year with 70% of your portfolio in stocks and 30% allocated in bonds, which fits your risk target.  Because of market conditions, your stocks grew considerably and now your portfolio has 80% stocks and 20% bonds.  It is important to rebalance your portfolio back to the original risk target of 70%/30% by selling some stock and purchasing more bonds.  Following an annual rebalancing strategy allows you to sell positions at a high point and purchase other positions at a lower price (Buy low and sell high).

Of course, tax is always a consideration and it is no different when rebalancing your portfolio.  Don’t worry about tax implications when rebalancing your retirement assets since gains will continue to either be tax deferred (retirement or IRA accounts) or tax free (Roth retirement or IRA accounts).  It is your after-tax savings that can add to your current year tax bill when you rebalance.  Below are some tax implications to consider before rebalancing your portfolio:

Federal long-term capital gain tax rates are lower than ordinary rates. Depending on your situation they may be 0%, 15%, 18.8%, 23.8%.  If you are filing a joint return with taxable income lower than $80,000 your long-term capital gains for federal may be taxed at 0%. For single individuals, the bracket is lowered to $40,000.  As the amount of gains increase, so will the federal tax rate.

  • For those over age 63, be aware of adjustments to Medicare premiums if your income gets too high. If the total of all income sources exceeds $174,000 for joint filers and $87,000 for single filers, expect your Part B and D premiums to increase.
  • If you are realizing short term gains (positions you have held for less than 1 year), your federal tax rates are higher and mirror that of your current ordinary income rates.
  • Do you have realized losses from prior tax years which can be used to offset current year gains? You can only take a tax deduction for $3,000 per year of net capital losses, the remaining gets carried forward to future years.

Investing is all about a disciplined approach with a long-term outlook.  Implementing an annual rebalancing strategy to your investment plan is a great way to control risk and remain consistent with your initial investment plan.