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11-taxes-and-private-wealth-management-in-a-global-context.html
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<title>Study Session 4 | Reading 11 | Taxes and Private Wealth Management in a Global Context</title>
<meta name="description" content="Chartered Financial Analyst Level 3 Study Materials">
<meta name="author" content="MacLane Wilkison">
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<section>
<h1>Reading 11</h1>
<h3>Taxes and Private Wealth Management in a Global Context</h3>
<p>
<small>Created for <a href="http://alchemistsacademy.com">AlchemistsAcademy</a> by <a href="http://alchemistsacademy.com/about">MacLane Wilkison</a></small>
</p>
</section>
<section>
<section>
<h1>Overview of Global Income Tax Structures</h1>
</section>
<section>
<h2>Types of Taxation</h2>
<ul>
<li>Income taxes - includes wages, interest, dividends, capital gains, etc.</li>
<li>Wealth-based taxes - includes holdings in real estate and wealth transfers (e.g. inheritance)</li>
<li>Consumption taxes - includes sales taxes and value-added taxes</li>
</ul>
</section>
<section>
<h2>General Income Tax Regimes</h2>
<ul>
<li>Common progressive regime</li>
<li>Heavy dividend tax regime</li>
<li>Heavy capital gain tax regime</li>
<li>Heavy interest tax regime</li>
<li>Light capital gain tax regime</li>
<li>Flat and light regime</li>
<li>Flat and heavy regime</li>
</ul>
</section>
</section>
<section>
<h2>After-Tax Returns</h2>
<ul>
<li>Accrual taxes on interest and dividends: FVIF<sub>i</sub> = [1+r(1-t<sub>i</sub>)]<sup>n</sup></li>
<li>Deferred capital gains: FVIF<sub>cg</sub> = (1+r)<sup>n</sup>(1-t<sub>cg</sub>)+t<sub>cg</sub></li>
<li>Cost basis: FVIF<sub>cgb</sub> = (1+r)<sup>n</sup>(1-t<sub>cg</sub>)+t<sub>cg</sub>-(1-B)t<sub>cg</sub></li>
<li>Wealth-based tax: FVIV<sub>w</sub> = [(1+r)(1-t<sub>w</sub>)]<sup>n</sup></li>
<li>In practice, portfolios will be subject to a variety of these tax structures</li>
<li>Accrual-equivalent return: r(1-T<sub>AE</sub>) = R<sub>AE</sub></li>
</ul>
<aside class="notes">
FVIF = future value interest factor based on an after-tax return. 'r' is the pretax return. 't<sub>i</sub>' is the tax rate applicable to investment income. 'B' is the cost basis of an asset as a proportion of its current market value. If the cost basis of an investment is below its current market value, this can create an embedded tax liability. An accrual-equivalent return is the tax-free return that, if accrued annually, produces the same after-tax accumulation as the taxable portfolio.
</aside>
</section>
<section>
<h2>Types of Investment Accounts</h2>
<ul>
<li>Tax-deferred accounts - earnings accumulate on a tax deferred basis</li>
<ul>
<li>FVIF<sub>TDA</sub> = (1+r)<sup>n</sup>(1-T<sub>n</sub>)</li>
</ul>
<li>Tax-exempt accounts - earnings accumulate without tax consequences</li>
<ul>
<li>FVIF<sub>TaxEx</sub> = (1+r)<sup>n</sup></li>
</ul>
</ul>
<aside class="notes">
Comparing the attractiveness of the two types of accounts requires comparing the tax rate today to the expected tax rate at the withdrawal date. If the prevailing rate upon withdrawal is less that the rate upon investment, the TDA will accumulate more after-tax wealth than the tax-exempt account, and vice versa.
</aside>
</section>
<section>
<h2>Implications for Wealth Management</h2>
<ul>
<li>Asset location - (e.g. place tax-free munis in a taxable account and heavily taxed securities in a TDA)</li>
<li>Trading behavior - optimal allocation/location will differ depending on trading frequency/strategy and subsequent tax treatment</li>
<li>Tax loss harvesting - realized capital losses can often be used to offset realized capital gains, reducing the current period tax obligation</li>
<li>Holding period management - long-term gains may garner favorable tax treatment vs. short-term gains</li>
<li>Mean-variance optimization should be performed using after-tax returns</li>
</ul>
</section>
<section>
<h1>THE END</h1>
<h3><a href="http://alchemistsacademy.com">AlchemistsAcademy.com</a></h3>
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