Financial Advisor Tax Planning Strategies for Financial Advisors 4 — Questions and Answers
Question 1: A client receives a large year-end bonus. Which strategy best reduces the current-year tax impact?
- Contribute the maximum to a 401(k) to reduce taxable income (Correct answer)
- Invest the bonus in a taxable brokerage account
- Convert the bonus to Roth IRA immediately
- Request the employer withhold no federal tax on the bonus
Correct answer: Contribute the maximum to a 401(k) to reduce taxable income
Maximizing pre-tax 401(k) contributions directly reduces adjusted gross income, lowering the tax owed in the year the bonus is received.
Question 2: What is the primary tax advantage of a Health Savings Account (HSA) for a client with a high-deductible health plan?
- Contributions are tax-deductible, growth is tax-free, and qualified withdrawals are tax-free (Correct answer)
- Contributions are made after-tax but withdrawals are always tax-free
- HSA funds must be used within the calendar year or they are taxed
- Employer contributions to an HSA count against the employee's contribution limit
Correct answer: Contributions are tax-deductible, growth is tax-free, and qualified withdrawals are tax-free
An HSA offers a triple tax advantage: deductible contributions, tax-free growth, and tax-free withdrawals for qualified medical expenses.
Question 3: A client has $20,000 in short-term capital gains and $15,000 in long-term capital losses. What is the net tax result?
- $5,000 short-term capital gain taxed at ordinary income rates (Correct answer)
- $5,000 long-term capital gain taxed at preferential rates
- $15,000 loss offsets all gains and $5,000 is carried forward
- The gains and losses cannot be netted against each other
Correct answer: $5,000 short-term capital gain taxed at ordinary income rates
Capital losses of any holding period first offset same-type gains, then cross-net; the $15,000 long-term loss offsets $15,000 of short-term gains, leaving $5,000 short-term gain taxed as ordinary income.
Question 4: Which type of municipal bond interest is generally exempt from federal income tax but may still be subject to the Alternative Minimum Tax (AMT)?
- Private activity bonds (Correct answer)
- General obligation bonds
- Revenue bonds issued by states
- Treasury Inflation-Protected Securities
Correct answer: Private activity bonds
Interest on private activity bonds (PABs) is excluded from regular taxable income but is an AMT preference item and can trigger AMT liability.
Question 5: A client wants to gift appreciated stock to their adult child who is in the 12% tax bracket. What is the most likely capital gains rate the child will pay when they sell?
- 0% (Correct answer)
- 15%
- 20%
- The same rate as the parent under the kiddie tax rules
Correct answer: 0%
Adult taxpayers in the 10% or 12% ordinary income bracket qualify for the 0% long-term capital gains rate, making gifting appreciated assets to lower-bracket family members a powerful strategy.
Question 6: What is 'tax gain harvesting' and when is it most beneficial?
- Intentionally realizing gains in a low-income year to reset cost basis at a 0% or low tax rate (Correct answer)
- Selling losing positions to offset capital gains
- Converting traditional IRA assets to Roth when markets are down
- Deferring gain recognition into the next tax year
Correct answer: Intentionally realizing gains in a low-income year to reset cost basis at a 0% or low tax rate
Tax gain harvesting deliberately realizes gains in years when the client's income is low enough to qualify for the 0% capital gains rate, permanently resetting the cost basis without tax cost.
Question 7: Under the 'step-up in basis' rule, what happens to the cost basis of inherited assets?
- The basis is reset to the fair market value on the date of the decedent's death (Correct answer)
- The basis remains the original purchase price paid by the decedent
- The basis is reduced by any depreciation the decedent claimed
- The heir must pay capital gains tax on all appreciation before the inheritance
Correct answer: The basis is reset to the fair market value on the date of the decedent's death
Inherited assets receive a stepped-up basis equal to the asset's fair market value at the decedent's date of death, eliminating income tax on any pre-death appreciation.
Financial Advisor Tax Planning Strategies for Financial Advisors 4
A client receives a large year-end bonus.
Which strategy best reduces the current-year tax impact?