The Magnificent 7 Ruled the Markets Last Quarter, Should This Change How You Invest?

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John Morton

Senior Wealth Manager

A familiar theme continued during the second quarter of 2024: US stocks led all other major asset classes, with most of this performance attributable to just a handful of technology companies. Last quarter’s commentary discussed why it continues to make sense to be diversified across global equities. This quarter, we’ll take some time to look at why US large cap stocks have performed so well recently and why, even against that backdrop, it still makes sense to diversify amongst US stocks.

This year, Nvidia hit both the $2 trillion market capitalization (share price x shares outstanding) milestone and then in June, four months later, it eclipsed the $3 trillion mark. For a brief moment, it was the most valuable company in the world. This title has consistently been held by either Apple or Microsoft over the past decade. All three companies were worth over $3 trillion at the end of the second quarter. These companies, along with a few others, have contributed most of the US equity market’s return this year.

Nvidia rose 37% in the last quarter and has tripled in value over the last 12 months. As a result, it has contributed 1/3 of the S&P 500’s year-to-date return. Microsoft, Amazon, Meta, Alphabet, Tesla, and Apple – the other “Magnificent Seven” members – and Nvidia are responsible for about 60% of the S&P 500’s rise this year. This is abnormal, but there is reasoning behind it. Over the last year, Nvidia, Amazon, Meta, Alphabet, and Microsoft grew their earnings (profits) by 84%, whereas the rest of the market increased earnings by about 5% relative to the year prior. More importantly, these companies all exceeded the market’s expectations for earnings and earnings growth.

Analysts will often reference a P/E ratio (“price to earnings” ratio) to illustrate how expensive a stock is relative to that company’s profits. According to FactSet data, the Magnificent Seven stocks are trading at 37 times their expected earnings over the next 12 months whereas the S&P 500 trades at 21 times forward earnings. While recent fundamentals have supported stronger stock valuations for those companies (they have handily beat earnings expectations over the last year) time will tell whether they will continue to top lofty expectations.

Not only do those companies have massive revenue and profit streams, but they are also investing heavily in generative AI technologies and applications. You’d be right to think of it as an arms race! To get an idea of how much money is being poured into AI, consider this: the five companies I just listed recently accounted for 22% of all US research and development capital expenditures. Over the coming quarters, investors will pay close attention to how much revenue and profits those enormous investments will generate.

A major risk to investors in the US stock market is that as the largest US companies increase in value, lifting the S&P 500 higher, the index continues to become more concentrated. Right now, investors are so optimistic about the largest US companies that they are willing to pay outsized prices for shares of those companies (as indicated by the P/E ratios I referenced earlier). At the end of the third quarter, Apollo Global Management notes that the top 10 stocks in the S&P 500 make up 37% of the index while contributing 24% of its earnings. That’s the largest gap since 1990. 

Torsten Slok, Apollo’s chief economist puts it well by saying: “The problem for the S&P 500 today is not only the high concentration but also the record-high bullishness on future earnings from a small group of companies.”

If those heavyweights fail to deliver on growth and profit expectations, there will almost certainly be a stock market correction.

To “beat the index? when the largest names are only getting bigger, would require an investor to own even more than the representative portion of those stocks.

Of course, an outsized position in Nvidia doesn’t sound like a bad thing looking backward! But being less diversified only works if the right bets – at the right time – are chosen AND then properly exited before the tables turn. For long-term investors, being diversified amongst all areas of the market will produce better outcomes. It’s been a great year to be an investor in US equities – there’s no sense complaining about how it could have been better with an even more concentrated gamble on the largest tech stocks.

As we all know, diversification means that portfolios will hold both the best-performing assets and the laggards. Over time, combining assets with high expected returns but different paths toward those returns (i.e. non-perfect correlations) provides investors with a better risk-adjusted return. Said another way, diversified portfolios don’t swing as wildly – which provides investors with greater peace of mind and, for retirees, could prompt them to be more confident in their spending levels.

At Boardwalk, we have our clients’ long-term goals in mind and we work to help our clients be comfortable and confident in their financial future. 

Staying Invested During an Election Year

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John Morton

Senior Wealth Manager

As the U.S. election season approaches, investors might easily become overwhelmed by the market predictions and speculations swirling around them. Predicting an election outcome is difficult enough – add in the question of “impact” on the economy, plus forecasting how that impacts your investments, and an accurate prediction seems impossible! The good news is that, despite the potential for increased volatility amid uncertainty, the historical data suggests that maintaining a steady investment course has proven to be the wiser strategy.

A picture is worth a thousand words, they say. If you’re focused on accumulating long-term wealth to fund your personal goals and lifestyle, then look no further than these charts when deciding between staying invested and altering your portfolio based on the political landscape and election uncertainty (or outcome!).

This chart, compiled by John Hancock, shows how the US stock market has richly rewarded long-term investors, regardless of which party has been in the White House.

And here, in a chart by BlackRock, it’s evident that investors should not enter or exit markets based on their political persuasions. Of course, the compounding result of 70 years makes alternatives to staying invested look foolish…but that’s the point.

This election cycle might seem different, given the historic rematch that America is barreling towards. And most would agree that political uncertainty with the 2024 election cycle is higher than usual. The market does not like uncertainty and, as a result, volatility will likely be high heading into the election but then die down after an outcome is determined. This is less a result of who is elected and more a function of uncertainty being resolved. The direction that markets take over the course of 2024 is likely to be dominated not by politics, but by the same forces that have historically determined how markets perform: inflation & interest rates, economic health, corporate profits, and stock market valuations.

Our advice would be to focus on first aligning your financial plan & portfolio with your values & goals, and then stay disciplined through uncertainty in both the markets and politics. 

An Exploration into Restricted Stock Units

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Brittany Falkner

Wealth Manager

The world of employee benefits and compensation is constantly expanding, making it ever more important that you fully understand what your employer is truly offering you. One VERY attractive way to compensate employees is in the form of Restricted Stock Units (RSUs). Below we’ll discuss the high-level facts you should know about this type of compensation.

What: A restricted stock unit (RSU) is an award of a company’s stock share that comes with certain requirements the recipient must meet before the stock is transferred to your ownership. This is a great benefit to have as it means more money coming to you, it’s just in the form of company stock. If the company does well, the value of your shares will increase as the stock price increases. Of course, the opposite could also hold true.

Why: RSUs are a way for your employer to offer higher compensation without affecting the business cash flow. You benefit by receiving additional income and participating in the company’s success. An advantage of RSUs versus other types of equity compensation is that there is no expiration date, and you will receive some value for these shares down the road (although it could be more or less than originally stated). Employers use RSUs to reward long-term employees and help align employee interests with the company’s performance. This is a common perk used to attract top talent in job offers.

*** Tip: If you are negotiating a new contract/job offer, you can likely negotiate for more RSU shares if they will not go higher on salary, allowing you to receive higher compensation.

 Vesting: RSUs come with a vesting schedule (aka distribution schedule) that details the time frame and required performance milestones you must meet to own the shares. The vesting schedule can encourage long-term employment as most employees do not want to leave a company with shares left behind.  

Taxes: RSUs are taxed as ordinary wages upon the vesting date. The mandatory withholding is 22% but be careful as your actual tax bracket may be higher than that causing you to potentially owe additional taxes on that income. You can hold the shares after vesting if desired. In that case, any future gains or losses will be subject to capital gains tax treatment. Keep in mind that if you hold the shares after vesting, you will still owe ordinary income tax on the original vested shares, and you’ll need to come up with the cash to pay your tax bill elsewhere.

***Tip: We highly suggest discussing your vesting schedule with your CPA to ensure you pay an adequate amount to taxes each year and avoid underpayment penalties.

Diversification: Holding a concentrated position of any company’s stock increases risk. While you may start off with a small portion of your shares vesting, eventually you may own a large amount of your employer’s stock as more shares vest. Diversifying your portfolio by selling some shares may become prudent to remain aligned with your targeted investment allocation (and necessary to fund some of your goals!).

***Tip: Most companies have blackout windows where key employees cannot sell their shares so be sure to watch for those.

RSUs for a Private Company

Double-Trigger/Single-Trigger Vesting: For private companies, vesting requirements may include what’s known as a double-trigger for vesting. This type of vesting states that the company must go through a liquidity or succession event to own the share. It is known as single-trigger vesting if you can own the share after the time/performance period alone, even if the company has not gone public.

Valuation: Unlike public companies with readily available stock prices, valuing RSUs in a private company is harder to determine. If a company has a single-trigger vesting, a 409A valuation is done by an independent appraiser to provide the value for the shares.

Exit Strategy: It’s important to note what options you have to sell your vested shares, and the company’s planned timeline(s). Is the company planning to IPO? Are there other exit opportunities/succession plans on the horizon? If double-trigger vesting is in play but the company does not IPO, your shares could never come to fruition. If a single-trigger vesting is in play, you will need to know the possibilities of selling these shares back on the private market.

Diversification: After IPO, it is important to note that there is typically a 180-day market blackout where no shares can vest or be sold.

In conclusion,RSUs can offer rewarding (and confusing!) compensation opportunities for employees. Boardwalk Financial Strategies’ advisors are well equipped to answer your RSU and other equity compensation questions. At Boardwalk, we include your equity compensation in your financial plan integrating your RSUs with your tax planning, cash flow, diversification of your portfolio, and more.

What Should the Financial Media Focus On?

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Mike Rodenbaugh

Founder

I have a pet peeve with financial media and news reports on the stock market in general.  Well, I actually have a lot of pet peeves about the financial media, but this commentary will discuss why one in particular can create issues with expectations vs. reality.  

When is the last time you heard a TV news anchor recite the day’s market movement of the MSCI EAFE or the Russell 2000 Value indices?  The US financial media generally only reports the returns of three measures of the stock market: the S&P 500, the Nasdaq, and the Dow Jones Industrial Average (“the Dow”).  Unfortunately, all of these are slightly different measures of the performance of US large company stocks—only one segment of the diversified portfolio owned by most investors.  For a Boardwalk 60% stock, 40% bond portfolio (“60/40”), the information provided by the financial media tells you about the returns of only 11.5% of the portfolio (and 19% of the equity portion of the portfolio).

Why do we only have 19% of the equity allocation in US large company stocks?  Perhaps a quick sidebar on diversification would be helpful before we proceed.  Investors and advisors divide up investment markets in many different ways: stocks vs. bonds, large vs. small company stocks, “growth” stocks vs. “value” stocks, and developed vs. emerging economy stocks.  Beyond stocks and bonds, there are also Real Estate Investment Trusts (REITs), commodities, private equity, and other categories.  The reason we categorize these segments of the market—called “asset classes”—differently is because they tend to have different risk and return characteristics and are not highly correlated with each other.  If different asset classes have attractive long-term expected returns but “zig and zag” differently, blending them together can provide a smoother “ride” for the portfolio while still producing a solid long-term return.

The chart below is a great reminder of why we diversify.  It shows the major equity asset classes, each with their own color, and ranks them vertically in each year’s column from best annual return down to worst.  The light blue box with red outline is the blended return of a diversified equity-only portfolio that includes all the asset classes shown in the chart.  It would be nearly impossible to predict which asset classes would be near the top of the column each year, but you can see that the diversified equity portfolio provides a better-than-average return without requiring any predictions.  It’s never the worst performing, but it will never be the best performing either (that’s mathematically impossible). 

Now back to those media reports. The returns on the S&P 500, the Nasdaq, and the Dow have been remarkable over the last 10 years. So remarkable, in fact, that other segments of global equity markets have not been able to keep up. The chart below shows the annualized returns of various asset classes over the 10 years ended March 31, 2024.

Typically, the best performing asset class rotates more frequently, but when the outperformance of any one asset class is as large and as persistent as the current run for US large company stocks, the diversified portfolio return can lag the top performer significantly.  To further pile on: when the outlier asset class is also the most visible (i.e. US large company stocks thanks to the attention provided to them), the urge to “do something about it” can be strong. 

Would “doing something” mean loading up on stocks of large US companies? Would it mean loading up on stocks in the “Magnificent Seven” such as Nvidia that have been on a historic run?  If that seems risky, you’re right, it is.

After an asset class dominates performance for a long period of time, it tends to either become overvalued or the other asset classes look very attractively valued relative to the recent top performer.  Looking at the last notable period where US large company stocks enjoyed significant outperformance, the returns tend to underperform in the following period. The best recent example of this was the late 1990s when internet and technology stocks were unbeatable during the “dot-com” era.  By 2003, the fortunes of those stocks had reversed quickly.  Below are the returns of various asset classes for the five years ended 12/31/1999 and those of the subsequent 10 years.  While this doesn’t mean the fortunes of these asset classes must immediately reverse, it is certainly more likely than five years ago.

Rolling period returns can be helpful in zooming out and viewing longer periods of time in single data points.  In the series of below charts starting with 5-year rolling returns, then 10-year, and finally 20-year rolling returns, you can see how acute the S&P 500 outperformance can be over 5-year periods, but as you lengthen the time period to 20 years, it’s only the two most recent 20 year observation where the S&P 500slightly outperforms the diversified portfolio (and only after the staggering 10-year outperformance of other asset classes seen in the chart above. 

5-Year Rolling Chart

10-Year Rolling Chart

20-Year Rolling Chart

Should investors have been able to predict this strong period of US large company outperformance or recognize the trend early and add exposure?  So called “tactical asset allocation funds” have the flexibility to adjust their mix of asset classes based on their forecasts.  If there was a clear signal that one should have bet heavily on US stocks, those funds would have done it.  They didn’t.  Instead, they have failed miserably relative to a fixed (non-tactical) asset allocation, as pointed out by Morningstar in articles over the last few years (here and here).

We believe that the equity portion of our clients’ diversified portfolios will be competitive with the S&P 500 over their investment time horizons, but there will most certainly be periods of time when a specific asset class leads the pack and outperforms a diversified equity portfolio over a multi-year period. This does not mean that diversification is broken.  In those moments, it may be helpful to keep in mind one of my favorite maxims regarding portfolio management: “A portfolio is like a bar of soap.  The more you handle it, the less of it you have.”

Cybersecurity for Regular Folks: No Cape Required

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James Hill

Associate Wealth Manager

These days, technology seems to be evolving faster all the time. While technology can bring ease and efficiency (and do lots of cool things – just see TIME’s list of Best Inventions of 2023 for some mind-blowing tech, my favorite being this actual flying car), it also creates new opportunities for our information to be stolen and used maliciously. This March, millions of AT&T customers had their private information, including SSNs and birthdates, leaked online after the information was stolen and held for ransom by hackers in a 2021 data breach. Back in 2017, the credit reporting agency Equifax was hacked and private information like SSNs, Driver’s License numbers, and home addresses for over 140 million Americans was leaked online.

               Though these are extreme examples of online privacy being violated, smaller-scale attempts to steal and exploit your data happen every day. Thankfully, there are many things you can do to enhance your online security, lowering the risk of a cybersecurity problem causing havoc in your life or finances. Here are 3 important best practice categories for preserving your security and privacy in the digital world (with a little help in the examples from my two-year-old daughter’s favorite things).

1. Passwords, Passwords, Passwords

Weak or re-used passwords are a hacker’s easiest way to access sensitive information, making them the most important piece of the digital security puzzle. Passwords should be a minimum of 12-15 characters (the longer the better) and consist of upper- and lower-case letters, numbers, and special characters. To increase the length, you could use a passphrase, like a favorite song lyric or quote, separating words with spaces, underscores, or dashes (ex. Bluey-is-my-best-friend). To make it even harder to hack, input the phrase backwards (ex. Friend_best_my_is_bluey).

Do not re-use passwords for multiple logins as hackers often use a password stolen in one place on as many other websites as possible to exploit password re-use. Even variations on the same password are more secure than an exactly re-used password (ex. Using G00dn1ght_G0r!lla! on one website and gOOdn!ght-gori11a?? on another). You might be thinking: those variations will be tough to remember!

Thankfully, password managers can remember for you. A password manager is a heavily encrypted, centralized place where all your passwords are stored virtually. Along with safe storage, it can generate new ultra-secure and unique passwords. You access your vault of stored passwords via a master password, which should be the longest, most complicated password you can think of (at least 20-25 characters).  Some of the best password managers on the market include Keeper, BitWarden, and 1Password. (We recommend staying away from your internet browser’s built-in password manager as they tend to be less secure).

A few other password best practices include:

  • If you suspect that you’ve been the victim of password theft, change the affected password immediately. Change your other passwords as well so thieves can’t use the stolen password in other places.
  • If you’re storing your passwords on pen and paper (not a bad strategy as that can’t be hacked), make sure you store them in a secure location such as a safe or lock box.
  • Since many password-reset options involve email, the password(s) to your email account(s) should be very strong (at least 20-25 characters). If email passwords are stolen, thieves can use your email to start changing your other passwords, quickly making the problem much worse.
  • You don’t need to change your passwords every couple of months if they’re already strong. Changing frequently can make passwords less secure by increasing the temptation to make them easy to remember, and thus easy to hack.
  • Only share your login credentials with people you trust absolutely.

2. Two Factors are Better Than One, They’re Twice the Fun!

Okay, they’re not actually twice the fun, but they are way more secure! Though it’s less convenient than only using passwords, we strongly recommend adding Two-Factor Authentication (2FA) to your website logins, if offered. 2FA significantly increases the security of your accounts by requiring a second step before allowing access. Often this means a hacker would need both your login credentials and your cell phone to access an account since your phone is used for most 2FA (via text messages, number codes, apps, or even biometric authentication like your fingerprint).

Another form of 2FA is the use of security questions, which prompt you to answer a question only you know the answer to. We recommend using special characters in your responses (ex. $es@me Str33t, instead of Sesame Street) and avoiding questions with answers that can be looked up (high school mascot, city of birth, etc.). Alternatively, you don’t need to answer the question appropriately, you could make up an unrelated answer instead (ex. Applesauce for Favorite Sports Team).

3. Good (Online) Hygiene to Keep Your Life Clean

A few best practices for your everyday online habits can make all the difference in keeping your information secure. Here are a few simple (and a couple more complex) practices that you can start using today:

  • Log out of apps and websites when you’re not using them, especially if you’ve logged in on public Wi-Fi or devices.
  • Set your browser’s settings to automatically create secure (HTTPS) connections to websites. Here’s a handy guide with steps for various internet browsers.
  • Consider switching internet browsers to one with more security and privacy features. A few well-regarded browsers include Brave, Vivaldi, or Epic .
  • Update your software when your computer prompts you to. New software patches are used to address security vulnerabilities so postponing updates puts your devices at risk.
  • Pay close attention when clicking on links in emails or downloading attachments from unfamiliar sources. These are frequently hackers’ attempts to gain access to your devices. For example, check the email address – not just the sender’s name. If you receive an email from “James Hill,” check to see if it is my Boardwalk email address (james@boardwalk-fs.com) or a clever variation meant to deceive you (like james_hill@boardwalkfs.com).
  • To avoid financial fraud, freeze your credit so no loans or credit lines can be opened in your name, only unfreezing it when you need to.

Online safety and security is something we must be constantly watching out for. Though we at Boardwalk are not cybersecurity experts, we are always looking for ways to further protect your financial life against disaster. Following the recommendations in this post will go a long way towards ensuring that you are confident in the safety of your personal and financial future.

Do I Need a Life Insurance Trust?

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John Morton

Senior Wealth Manager

Do I need a Life Insurance Trust?

For higher-net worth individuals and families, life insurance and estate planning are important to consider together. To explain why, let’s revisit another personal finance topic: taxes! Life insurance is usually income tax free. However, life insurance is counted as part of a decedent’s estate and estate taxes are assessed on a decedent’s personal wealth (estate) at the federal level and in many states. Thus, life insurance is potentially subject to estate taxes, assuming someone’s estate exceeds the exemption amounts – unless advance planning is done. An irrevocable life insurance trust (ILIT) is a tool to help protect life insurance proceeds from estate taxes. At the end of this article is an example of how our recent work with an Illinois client could save over $1.0 million in estate taxes.

How does an ILIT work?

As the name would suggest, an attorney creates a trust for someone that holds the life insurance policies. The ILIT can either purchase new policies or receive existing ones (by sale or gift). Both the owner and beneficiary of the policies is the trust, though the insured person remains the same.

The insured person is the grantor of the trust and funds the annual premiums with gifts made to the ILIT. As long as gifted premiums do not exceed the annual exclusion gift amount ($18,000 per beneficiary in 2024), no gift tax return needs to be filed. Because life insurance proceeds are income tax free, the trust doesn’t pay income taxes when it receives the death benefit . And because of the irrevocable nature of the trust, the policy and death benefit proceeds are also excluded from the grantor’s estate. Very complex tax and legal concepts were just summarized in four sentences, but this is an established method of getting life insurance proceeds “outside” of someone’s estate and we’ve utilized it for many clients.

What are the pitfalls?

Aside from added complexity and cost, you should be aware of these two pitfalls when considering this planning technique to reduce or eliminate potential estate taxes.

First, while it is best practice to purchase life insurance directly through the ILIT, it’s often the case that an ILIT is implemented years after someone initially bought some life insurance policies. Whether there’s been a health change or not, it usually makes sense to keep older policies since premiums increase with an insured’s age. Two options are available to get the policies “into” the ILIT: a gift or a sale.

    • A gift is much easier to process, but the insured needs to survive a three-year lookback period – otherwise the IRS deems the death benefit to be included in the decedent’s estate. This is in place to avoid abuse via last-minute ILIT strategies.

    • A sale by the owner/insured to the ILIT is a much more complicated process, but there isn’t a survivorship requirement.

Second, everything must be set up properly for the ILIT to pay premiums, including an annual notice to the trust’s beneficiaries. This notice is called a “Crummey Notice” after the strategy’s creator successfully defended its legality in the 1960’s.

    • Each part of the annual gift, notice, and payment process must be followed to a T and properly documented for the IRS to honor the exclusion of life insurance proceeds from the insured’s estate.

There’s upfront leg work to implement this strategy and annual “maintenance” to successfully keep the life insurance proceeds outside of someone’s estate. To determine whether it’s worth that hassle, we consider our clients’ current wealth, potential life insurance proceeds, and their financial trajectory to see if it’s important to plan around estate taxes.

How much money does someone need for estate taxes to apply?

There are exemption amounts at both the federal and state level before estate taxes apply. In 2024, someone could pass away with $13.61 million without any federal estate taxes (this amount doubles for a married couple). But wealth over that amount is subject to a top tax rate of 40%! Per the 2017 Tax Cuts and Jobs Act (TCJA), the exemption amount is slated to cut in half starting January 1, 2026.

Most states don’t have any estate tax (including Wisconsin). For those that do, both the exemption amount and tax rate vary. Illinois has a $4,000,000 exemption per individual and a top rate of 16% that would apply to wealth above that amount.

Proper estate planning can easily save 6- or 7-figure amounts for high-net worth families. Instead of going to taxes, that wealth passes to the next generation or other beneficiaries.

What’s an example of an ILIT helping reduce taxes?

As previously stated, life insurance is income tax free but increases the beneficiary’s estate, so there could be estate tax repercussions. Let’s look at an example that’s similar to an Illinois client we recently helped…

Using round numbers, the husband and wife currently have $6,000,000. This is split amongst their retirement accounts, cash, home, etc. – $4.0 million in the husband’s name and $2.0 million in the wife’s name. They both have strong incomes and bright careers ahead of them, so they both have life insurance policies to support the surviving spouse & their three kids, pay for college, pay off the mortgage, sustain the family’s lifestyle, and have funds set aside for retirement. The husband has $3,000,000 in life insurance and the wife is insured for $2,000,000.

  Husband Wife
Current Wealth $4,000,000 $2,000,000
Life Insurance $3,000,000 $2,000,000
Gross Estate (no ILIT) $7,000,000 $4,000,000

If the husband passed away, his estate would have $7.0 million. That’s a far cry from the current federal estate tax exemption amount of $13.61 million (though it would be very close to the post-TJCA exemption of ~$7M that will kick into effect in 2026). However, it is above Illinois’ flat $4.0 million exemption (which doesn’t adjust with inflation). An Illinois tax bill on the excess $3,000,000 would be $565k, but this tax bill is kicked down the road by utilizing a martial deduction.

The wife would now have $7.0 million PLUS her own $4.0 million if she passed away shortly after ($11.0 million in total). The problem with this though, is now there is an (even bigger) $1.058 million Illinois tax bill upon the wife’s passing since Illinois doesn’t recognize portability. Confused? You’re not alone! We suggest getting professionals involved in situations like these.

An ILIT would help to mitigate the risk of estate taxes, so we helped transfer just the husband’s policies into an ILIT and now the situation would play out as follows. The $3.0 million of insurance money ends up “outside” his estate.

  Husband Wife
Current Wealth $4,000,000 $2,000,000
Life Insurance (in ILIT) $3,000,000 (excluded) $2,000,000
Gross Estate $4,000,000 $4,000,000

A good estate plan would utilize the full $4.0 million Illinois exemption upon the husband’s passing (as explained above) and then again on the wife’s passing.

Combined with an Irrevocable Life Insurance Trust (ILIT), no federal or Illinois estate taxes are owed, and the full $11.0 million of wealth & insurance proceeds all go to the couple’s beneficiaries.

The ILIT component would save Illinois estate taxes of $565k (on $3.0 million) and the combined effect of good planning would save over $1.0 million! 

We love helping our clients save both income and potential estate taxes through great financial planning.

Of course, this situation doesn’t apply to all high-net worth clients. But even for folks that seem far away from crossing over federal or estate tax exemption amounts, a robust financial trajectory and/or life insurance proceeds may surprise them down the road. As their wealth continues to grow, the value of their estates will become much larger than currently anticipated. We take a proactive approach to insurance and estate planning to help minimize taxes and transfer as much of our clients’ hard-earned savings to their beneficiaries.

2024 Tax Law Changes

Brittany Falkner

Brittany Falkner

Wealth Manager

As the saying goes, nothing in this life is certain besides death and taxes. My version would be edited to include AND tax law updates! This year is no exception. Many of 2024’s changes were enacted through various pieces of prior legislation including the Secure Act 1.0 and Secure Act 2.0. Below, I’ll review a few of the changes that definitely caught my eye. I’ve also included a chart of a few important numbers to know. 

Inherited IRA accounts may be subject to Required Minimum Distributions (RMDs) this year!

What: After years of uncertainty, this is the first year that the IRS is requiring non-eligible beneficiaries who inherited an IRA account after December 2019 to possibly be subject to RMDS. If the original account owner was subject to RMDs before their death, you as the heir may be required to take annual RMDs along with the requirement to empty the account within 10 years after inheriting. I recommend discussing this complicated matter further with your financial professionals as it has many moving parts.

Why you should care: The penalty for not taking a RMD is 25%!

Updates to the clean energy tax credit for electric cars.

What: The Clean Energy Tax Credit has been updated so electric cars with an MRSP of less than $55,000 and Vans/SUVS of less than $80,000 are now eligible. This removes the manufacturing limitations previously in place making GM, Toyota, and Tesla EVs eligible. However, there is a new income limitation to claim the credit of $300,000 MFJ (and $150,000 Single). New to 2024, you may transfer your tax credit to the dealer to receive an immediate price reduction rather than waiting to file your tax return.

Why you should care: You may get an immediate $7,500 off the purchase price from the dealer, but if your income is too high you are required to repay this on your tax return!

Updates to the energy efficient home improvement tax credit.

What: Updates to your home that are energy efficient such as central air conditioners, water heaters, furnaces and water boilers allow a credit of 30% of costs up to $600 for each item, with a yearly limit of $1,200 for this category.

Why you should care: This credit had a previous $500 lifetime maximum which is now completely reset. This means you can now be eligible for this tax credit again each year. Happy shopping!

You may be able to roll left over 529 account dollars to a Roth IRA.

What: If you have excess funds left over in a 529 college savings account, you may be able to roll these dollars into a Roth IRA account tax free for the named beneficiary. There are several rules surrounding this including: the account must have been open for at least 15 years, the beneficiary must have earned income to be eligible to make an IRA contribution in that year, the annual rollover amount is limited to the maximum Roth IRA contribution for that year, contributions & earnings must have been contributed more than 5 years ago to be rolled over, and there is a lifetime maximum of $35,000 per beneficiary. There are still many questions on this that we expect the IRS to clarify, mainly: does updating beneficiaries of the 529 reset the 15-year clock?

Why you should care: The income limitations of Roth IRA contributions do not apply to this transfer meaning high earning individuals listed as a beneficiary of a 529 would be eligible!

Catch up contributions made to employer retirement accounts are required to be made as Roth contributions for high earners beginning in 2026.

What: Defined contribution retirement plans are permitted to allow participants over the age of 50 or older to make additional “catch-up” contributions to their accounts ($7,500 in 2024). Currently these catch-up provisions are allowed to be made on a pre-tax basis. Starting in 2026, individuals who earn over $145,000 will be required to make these catch-up contributions as Roth contributions.

Why you should care: This change was originally set to begin in 2024 but is now being pushed back to 2026. When this does take effect, it will remove the tax savings of the additional pre-tax contributions made and therefore you may owe additional taxes if this applies to you.

Penalty free emergency withdrawals allowed from employer retirement accounts.

What: The Secure Act 2.0 allows IRA owners and retirement plan participants to process an “emergency personal expense distribution” up to $1,000 with no 10% penalty if under age 59.5. You are allowed to repay these distributions over a three-year period if you self-certify you had an unforeseeable or immediate financial need relating to a personal or family expense.

Why you should care: This may be a way to tap into your employer account to fulfill an unexpected expense instead of using a credit card or loan.

A new retirement savings lost and found website!

What: The Secure Act 2.0 directs the Department of Labor to create an online searchable database for individuals and their beneficiaries to locate missing employer benefits/accounts by 12/29/2024. More details to come.

Why you should care: This will allow all individuals to search for lost retirement accounts and hopefully recover those dollars!

Numbers to Know:

  2024 2023
IRA and Roth IRA Contribution Limits $7,000 ($8,000 for ages 50+) $6,500 ($7,500 for ages 50+)
401(k), 403(b), 457 Contribution Limit $23,000 ($30,500 for ages 50+) $22,500 ($30,000 for ages 50+)
Health Savings Account Maximum Contributions $4,150 Single $8,300 Family (extra $1,000 for ages 55+) $3,850 Single $7,750 Family (extra $1,000 for ages 55+)
Flexible Spending Account $3,200 $3,050
Annual Gifting Limit $18,000 $17,000
Social Security Cost of Living Adjustment 3.2% 8.7%
Required Minimum Distribution Age Age 73 for those born on or after January 1, 1951 Age 75 for those born after 1960 72

The above is a quick highlight of a few of the changes taking place in 2024. If you have any questions on the 2024 tax laws or your specific tax situation, please reach out to your Boardwalk advisor.

Should Expert Predictions and the Financial Media Guide Your Investment Decisions?

Picture of John Morton

John Morton

Senior Wealth Manager

Summary
As great of a year 2023 was for investors, it’s even more notable how much better than expected the year turned out. We dig a little deeper into how the past few years have fared compared to expert predictions.
The commentary below proves expert predictions are probably better described as guesses. Basing your investment strategy on what the media says could get you into trouble.

 

2023 was an amazing year for investors, even though no one expected it! Rewinding to one year ago, investors were still in the doldrums after a horrible 2022 that saw both stocks and bonds decline by double digits. On the docket for 2023 was a year full of interest rate hikes, inflation pressures, wars, and – so we all thought – a recession. As a result, many investors were content to accept a (finally!) decent return on cash and just wait out the year. The Wall Street Journal summed it up well: “Almost no one thought 2023 would be a blockbuster year for stocks. They could hardly have been more wrong.”

Despite what the investment strategists, economists, and media pundits may say, it will be very difficult to correctly predict how the economy and your investments will perform in 2024. Even if someone predicts accurately in one area – say, geopolitical risks or corporate profits or consumer strength – how the market reacts and moves during a year is so complicated that few, if any, can be right enough to make a profit off it on a consistent basis. Because not only does someone have to address data outcomes or event-specific risks, but that investor would also need to predict how human behavior reacts to that myriad of interwoven factors.

The last four years are a great string of examples for this.

2020:

  • What was predicted: Well, we’ll give everyone a “pass” for 2020.
  • What happened: A global pandemic, of course. In investing we call these “black swan” events – world-changing events that no one predicts but inevitably surface occasionally.
  • How markets performed: Despite a historic crash in the spring of 2020, everything did quite well to end the year. The S&P500 return was 18.4% for the calendar year.
  • Verdict: No one predicted the violent crash nor the rapid recovery in 2020.

2021:

  • What was predicted: A continued economic recovery, but still pretty average market returns. On the high end, some predicted double-digit returns but there were just as many experts forecasting a flat stock market.
  • What happened: Despite persistent effects from the virus, the US economy surged back to life as consumers just shifted where they spent money and companies adapted. Inflation was the “consequence” from combining a robust, stimulus-fueled recovery with supply chain issues, but during 2021 it still hadn’t hit full swing yet.
  • How markets performed: The S&P 500 hit 70 new all-time highs on its way to a monster 28.7% gain.
  • Verdict: At this point the pandemic still wasn’t behind us. So, it’s understandable how few anticipated the “V-shaped” economic recovery, and none nailed just how stellar market returns would be.

2022:

  • What was predicted: Maybe it was the rose-colored glasses of 2021 since, despite high valuations and a telegraphed set of Federal Reserve rate hikes to combat inflation, forecasters said markets would be up.
  • What happened: Interest rates surged at the fastest pace in decades and US inflation peaked at 9.1% in June. The economy still managed to grow about 2%, but there was widespread pessimism.
  • How markets performed: The S&P 500 posted its worst year since 2008 (-18.1%) and bonds had their worst year ever (the Bloomberg Barclays Aggregate Index fell over 13%). Areas with the highest valuations and best 2021 returns fell the most in 2022: technology companies, “meme stocks,” cryptocurrencies, etc.
  • Verdict: Another miss!

2023:

  • What was predicted: 85% of economists in a Financial Times poll expected a US recession in 2023 and the IMF said that a third of the global economy would be in recession along with the United States. And it wasn’t just economists and rap artist CardiB…we all figured it would happen in 2023.
  • What happened: Not only did the US avoid a recession, but the global economy managed better than expected on average. Few would have also predicted a banking crisis, a government debt showdown, or Artificial Intelligence mania to fill the year.
  • How markets performed: It was a banner year for stocks (S&P 500 up 26.3%), and everything did well in the 4th quarter rally.
  • Verdict: No doom and gloom. And even for the optimists, investment returns exceeded all forecasts.

It’s clear that relying on future forecasts would have been a dangerous investment strategy over the last four years. Fear and greed, the opposing sides that encompass much of human investing behavior, influenced investors to be overly cautious heading out of the covid crash and 2022 declines but also overly confident after 2021’s rally. Just imagine the difference in portfolio return had you heeded the collective advice of the prognosticators vs. sticking with a disciplined investment strategy!

Poor predictions aren’t just a post-covid phenomenon (2020 onward). A piece by the New York Times looked at a 24-year time period: 2000 through 2023. Rather than just giving a “verdict” as I did above, they measured the difference between the median forecast and actual returns of the S&P 500. For example, in 2022 a median forecasted rise of 3.9% was wrong by a margin of ~24% given the S&P 500’s 18% fall. So, how far “off” is Wall Street each year?

“…the median Wall Street forecast from 2000 through 2023 missed its target by an average 13.8 percentage points annually…”

-Jeff Sommer, “Wall St. loves to Guess, but Nobody Knows What the Market Will Do in 2024”, New York Times

Talk about a wide margin of error! If your advisor, YouTuber, or CNBC host is touting their market prediction abilities, the evidence is clear: they just got lucky and that will be very, very difficult to repeat consistently. Despite ever increasing and timely data, market transparency, and better understanding of investor behavior, reliably forecasting the stock market remains elusive. In that light, a humble and disciplined approach to investing is best.

At Boardwalk, we help clients pick a portfolio that’s right for them and that they can stick with during rough times – this strategic approach is the proven winner in investing over the long run. Tactical investing (zigging and zagging amongst assets) results in poor investment outcomes on average. Instead of trying to identify how the market is wrong, we seek to harness the enduring relationship between risk and return by emphasizing the risks the market has rewarded consistently and persistently for long-term investors. Then, we go the extra mile to make sure that the things we can control – like tax efficiency, rebalancing, or getting excess cash to work –remain the focus to enhance wealth creation over time.

Our clients share that they enjoy peace of mind knowing their low-cost, diversified portfolio is designed to meet their long-term goals and promote financial security. Without knowing what’s in store for 2024, we hope these truths can provide you with confidence for the years ahead, no matter what they bring.

Ten Tips on Trusts

Picture of John Morton

John Morton

Senior Wealth Manager

What is a trust?

A trust is a legal instrument to hold and control assets. Anyone with assets – not just the wealthy – should consider creating a trust to use during life, known as an “inter vivos” or revocable living trust. This trust would hold assets during someone’s life for his or her use, and then direct who inherits the assets too. Alternatively, someone could consider including a provision in their will to create a trust after death, known as a testamentary trust. There are other types of trusts as well, all with unique purposes, but all trusts are useful for determining how and when beneficiaries receive or have access to assets.

What is a trustee?

A trustee holds the legal title of and administers the affairs of a trust. If a living trust is created, the trustee and the grantor (trust creator) are the same person. The trust creator has simply placed their assets inside a trust for benefits such as privacy, outlining beneficiaries, and estate tax minimization, among other reasons. He or she can amend or revoke the trust while alive. If someone is incapacitated, has passed away, or set up an irrevocable trust, the trustee is a separate person or organization that holds a fiduciary responsibility to carry out the trust creator’s wishes and directing trust income or trust assets to the beneficiaries of the trust. When a trust is created, these trustees are identified.

Tip #1: Always have successor (back-up) trustees in your trust document. Additionally, know that organizations such as banks can serve as corporate trustees, but having a friend or family member as a successor trustee(s) will help reduce costs and retain more assets for the beneficiaries.

What are some benefits to having a trust?

As stated previously, a frequent attraction is having control over assets after death. For example, a trust could hold assets for a beneficiary until they are a certain age. As another example, a trust could place restrictions on distributions (like for a second marriage or a spendthrift child).

Tip #2: Another estate planning document, a “last will and testament” (usually referred to as “a will”), directs who receives assets but does not allow any control over those assets.

Trusts can also help protect an heir’s inheritance against creditors or divorce. Most states, like our neighbor Illinois, are common law states and in the event of a divorce, the assets are split equitably (not necessarily equally). Wisconsin is a community property state, where marital assets are considered to be jointed owned and thus split equally. In both cases, inherited assets are typically excluded if proper steps are followed.

Tip #3: Passing along assets to children in a properly structured trust makes it more likely that those assets are safeguarded in the event of a later divorce.

For larger estates, an estate plan with the right pieces can help pass more wealth onto the next generation. There is a 40% federal top tax rate on estates above the exemption amount (currently about $26M for a married couple but that is scheduled to cut in half starting January 1, 2026). Each state is different – Wisconsin does not have an estate tax but Illinois imposes a tax on an individuals’ estate above $4M.

Tip #4: You can’t avoid the tax man. But there are legals rules and structures that can allow for greater wealth transfer to future generations. We’ve helped clients structure their estate plan with an attorney to help reduce their expected estate taxes by six- and seven-digit figures.

Minors cannot receive assets as a beneficiary of a will, retirement account, or insurance policy, so setting up a trust to hold assets until a child can legally access the funds is the best route to avoid a probate court getting involved.

Tip #5: A trust should be used when minors are the estate’s beneficiaries.

Wait, what’s probate?

When someone dies, a court reviews that deceased person’s assets and estate planning documentation, like a will, to determine who inherits those assets. With attorneys and courts involved, this process will take time and can be very expensive. At a minimum, it’s likely to cost $5,000-10,000 but complexities could easily multiply that cost several times over.

Tip #6: While a comprehensive estate plan, including trust documents, can cost more than $3,000 there are many benefits for the family, including saving on legal fees during probate!

How can probate be avoided?

If done correctly, a revocable trust and proper estate plan can reduce or eliminate an estate’s interactions with probate court. A major downside to just having a will, even if a testamentary trust is written into the document, is that pesky court proceeding called probate still must occur. Eventually, the probate court would fund the trust with a deceased person’s assets, but that can be a lengthy and expensive process as mentioned earlier.

Tip #7: It usually makes sense to invest in setting up a living trust along with a will. Having a will (even with a testamentary trust) does not avoid probate.

Along with a revocable living trust document, there are several other “areas” to button up in order to have assets pass to the desired heirs and avoid the costly probate process. Here a list to consider:

  • Beneficiaries on life insurance and retirement plans
  • Pay-on-death (POD) beneficiaries
  • Transfer-on-death (TOD) beneficiaries
  • Jointly owned property
  • Power-of-attorney documents

Regarding these beneficiaries, titling, and documents, here are two other tips:

Tip #8: The first four items transcend a trust or will document. That’s right: that hastily filled out beneficiary form for your first job’s retirement plan would dictate who receives those assets if the money was left there. If you’ve made changes to your will and trust beneficiaries, don’t forget to update everything else too.

Tip #9: If you’re incapacitated, a trust document isn’t helpful for assets not owned or governed by the trust. In the event of incapacity, a power-of-attorney document would outline who is responsible for making financial decisions for non-trust assets. Without that document, the next of kin and courts would determine who carries that responsibility.

Boardwalk Financial Strategies is highly involved in all aspects of our clients’ financial situations. A comprehensive estate plan and proper implementation gives our clients peace of mind and helps align their values, goals, and wealth. We help with our clients work with an estate planning attorney to create the right instruments and periodically review them.

Tip #10: Having an estate plan isn’t enough. It must be properly implemented. We help our clients “button up” their insurance policies, retirement accounts, bank accounts, investment accounts, real estate, privately owned businesses, and other assets so that their wishes are followed, the right beneficiaries receive assets, and their family saves money by reducing or avoiding probate.

At Boardwalk Financial Strategies, we are a team of advisors with strong estate planning backgrounds. This allows us to build comprehensive financial plans for our clients that serve them beyond their own lives. If you would like to learn more about our comprehensive wealth management services, please contact us today.

Get the Most Out of Your Employee Benefits

Picture of John Morton

John Morton

Senior Wealth Manager

For many, employee benefit elections for 2024 are just around the corner, and it’s important to know what you’re getting into before making any decisions. There will also be higher 2024 maximum contribution limits for workplace retirement plans. To take advantage of that, it may require you to change your contribution rate(s). We are here to help you navigate these decisions with confidence and peace of mind.

Many employers are focused on cost management in this economic environment. Since health benefit costs are expected to jump 5.4% this year, you may see a change towards a high deductible health care plan. This could mean higher out-of-pocket costs despite a lower monthly premium, so let us help you understand the difference compared to regular health insurance. As Brittany wrote about last month, enrolling in a high deductible plan could give you access to a Health Savings Account (HSA) – a fantastic long-term, tax-advantaged growth vehicle.

    • The HSA annual contribution limit in 2024 for self-only coverage is rising to $4,150 from $3,850 in 2023. The cap for family plans is jumping to $8,300 from $7,750. The catch-up contribution remains at $1,000 per spouse aged 50+.

There are typically other benefits offered by employers too, including voluntary life insurance benefits. This gives you the option to get additional life insurance without any health underwriting. However, it’s usually more costly than traditional term insurance. We don’t sell insurance but will help you navigate the options. We’ve helped some clients optimize their workplace and private policy mix, saving thousands of dollars in annual premiums. It is one example of many where we’re able to help optimize the additional benefits you’re offered.

Finally, 401(k) and 403(b) contribution maximums for 2024 will be announced next month and it’s widely expected that the maximum will increase to $23,000 from $22,500. Like HSA accounts, retirement plans allow catch-up contributions for those aged 50+. As we wrote about in January, the SECURE Act 2.0 required “high wage earners” – defined as those making $145,000 or more – to only make catch-up contributions with post-tax dollars.

    • Last month, the IRS announced a two-year delay to enable employers more time to add Roth 401(k) features to their plan. So, starting in 2026, high wage earners will need to contribute their $7,500 catch-up to their Roth 401(k).  Your employer plan should handle this for you automatically.

We will advise you to make pre-tax, after-tax, or Roth contributions based on what makes sense for your tax situation. If your compensation has changed, it may also make sense to adjust your contribution rate.

Employee benefit elections for 2024 can be a complex process that requires careful consideration of many different factors. We can help you understand what’s available and guide you towards the best decision for your family.