When it comes to managing the wealth you've accumulated in any one stock, have you ever asked yourself, "How much is too much?" Holding a large position in one stock generally increases your risk level compared to a well-diversified portfolio. (Keep in mind, however, that diversification cannot eliminate the risk of fluctuating prices and/or uncertain returns.)
An investor with a significant portion of his or her wealth in one stock may have accumulated that concentrated position in a number of ways, such as:
• Equity compensation, including stock options and restricted stock
• Building sizable positions of company stock in an employer-sponsored retirement plan
• Being a corporate insider and subject to further "windows" or restrictions to follow upon sale of the stock
• Selling a business and receiving stock in a publicly traded company in return
• Inheriting sizable stock positions built over multiple generations
If you find yourself in a situation where you need to increase cash flow, reduce your portfolio's risk profile by diversifying your investments, or reduce adverse income and estate tax consequences, your Financial Advisor can help you sort through your circumstances and work with your tax and legal advisors toward your objectives. The following descriptions give an overview of several alternatives you may want to consider for managing your concentrated equity position.
Gradually selling and repositioning. Sometimes the simplest strategy can be the most appropriate. You can gradually sell shares and reinvest the proceeds into investments that may better meet your changing needs. By selling over time, you can spread your gain (and corresponding tax liability) over time, perhaps several tax years (discuss this with your tax advisor). Not only can this strategy help you diversify your portfolio and maintain full control of after-tax proceeds, it can also help you retain control of your financial situation, stopping and starting the sale of shares as needed. This gives you the chance to reinvest proceeds over time, adjusting your investment selections as appropriate.
You may want to combine this basic strategy with more advanced strategies, such as hedging or establishing a charitable remainder trust. (Note: if you are a corporate insider or manager, your company's policies may not allow certain hedging or options-based strategies. Be sure to check with corporate counsel before embarking on any of these alternatives.)
Estate planning and charitable techniques. Many individuals with substantial positions in one stock look for strategies that can help reduce overall income and estate tax liabilities and achieve philanthropic goals. There are charitable giving strategies that can provide you a current income tax deduction, a continuing source of income for you, and a way to potentially avoid paying current capital gains tax on appreciated assets. Some strategies also can help shield the donated assets from estate taxes. And when you consider current income tax rates and estate tax rates, you and your heirs may benefit substantially from these techniques.
Borrowing against your stock. This alternative helps you generate cash without selling your stock and avoids generating a current tax liability. You diversify your portfolio by purchasing other stocks with the loan proceeds. When you borrow on "margin," or use your stock as collateral, you can often borrow 50 percent (and in some cases more) of your position's market value at competitive interest rates as long as the stock meets certain minimum qualifications.
Margin borrowing involves a high degree of risk and may not be suitable for all investors. With this strategy you must maintain a minimum amount of equity in your margin account. Market conditions can magnify any potential for loss. If your collateral stock's price drops, you may receive a margin call, which means you will be obligated to bring your account into balance by depositing cash or other stocks immediately. Otherwise, you may be forced to liquidate all or a portion of your position.
Understand your alternatives. When it comes to managing the wealth you've accumulated in one stock, you need to understand the suitability of each alternative in relationship to your individual circumstances. In fact, one or more of these alternatives may be inappropriate for your situation. The appropriateness of certain alternatives also depends on market behavior and the availability of particular contracts, stocks or products. Your Financial Advisor, working with your tax and legal advisors, can help evaluate these and other strategies.
This article was written by Wells Fargo Advisors and provided courtesy of Jonathan Buoni, Financial Advisor, in Springfield, Mass., at 413-755-1171.
Wells Fargo Advisors does not provide legal or tax advice. Be sure to consult with your tax and legal advisers before taking any action that could have tax consequences. Any estate plan should be reviewed by an attorney who specializes in estate planning and is licensed to practice law in your state.
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