4 Ways to Take Advantage of a Down Market
We are currently living in a stressful time. COVID-19 is affecting the health of the entire world, we are practicing social distancing and the stock market is experiencing one of the quickest and sharpest declines in history.
It’s important to remember that challenges in life are often really opportunities in disguise. Within this market correction, there are four opportunities that we can focus on.
1) Roth IRA Conversions:
Since account values are down, this could be a good opportunity to convert a Traditional IRA to a Roth IRA. Converting to a Roth IRA at reduced account value can potentially create a long-term tax savings. For example, if an account was once at $100,000 and now it's at $75,000, converting to a Roth IRA will mean paying taxes on $25,000 less dollars. A person in the 24% tax bracket would essentially pay $6,000 less in taxes compared to converting the IRA at its higher value. As the market recovers, future growth is tax free.
It is important to remember that any funds that are converted from a Traditional IRA to a Roth IRA will be counted as income. In the above example, all $75,000 would be counted as income. For this strategy to work, it’s critical to pay attention to income levels and whether or not converting will push you into a higher tax bracket.
2) Tax Loss Harvesting:
Investors that have investment accounts receive a 1099 each year and will pay taxes on an account’s income, dividends and realized capital gains. There is a strategy that can minimize the annual tax liability and it’s called Tax Loss Harvesting.
The IRS gives an investor the ability to offset investment losses from gains in their investment portfolios. With the market drop, many investments will show a loss which creates and opportunity to offset future gains with current losses.
3) Investing Cash:
Cash is and will always be an important component of a person’s financial plan. Making sure a person has enough cash on hand to cover emergencies or circumstances out of their control (such as this one) is paramount. On the other hand, having more cash than what is needed to cover emergencies (generally 3-6 months expenses) will have a negative long-term financial impact. Over a long period of time, equities will tend to outperform cash.
4) Increase 401k Contributions:
This could be a good time to increase your 401k contributions to take advantage of cheaper stock prices. Investing money into the stock market as the values continue to drop is a good way to buy more shares of stock than you were previously able to at higher stock prices.
Increasing your 401k contributions helps you avoid the pitfall of trying to time the market. It’s almost impossible to correctly time the bottom of a stock market decline. You may be investing too early or too late.
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