How to Add Value by Reviewing Clients’ Tax Returns

It’s futile for advisors to try to beat the market. But we can add so much when it comes to tax-efficiency.

That’s why I require clients to send me their most recent tax returns (with their Social Security numbers deleted). Reviewing those returns allows me to help the client significantly. Admittedly, I’m a licensed CPA. But you can “wow” your clients as well.

Here are the insights I learn and how it provides a ton of value to clients.

  1. Client behavior. I’m critical of risk profile questionnaires to set asset allocations as they don’t measure the client’s need to take risk, and their willingness to take risk is not stable. I discuss consequences of allocations, and, unlike the past performance of their investments, past behavior is a good predictor of future behavior.

I look to see if the client has a tax-loss carryforward. If they do, it means they sold something in their taxable account at a large loss. There could be very good reasons, such as tax-loss harvesting where the client sold a holding to buy something similar to avoid the 30-day wash rule. It could also have very little to do with investing, such as a failed business or selling a business at a loss.

Usually, it’s because the client bought high (when they felt they had a high-risk tolerance) and sold in a bear market after their courage evaporated. Many people sold when stocks fell 35% in the 33 days ending March 23, 2020. When that is the case, the client often says something like, “I’ve learned my lesson and won’t do that again.” I say “don’t be so sure,” since every bear market is different.