What to do with too many eggs in one basket.
What is a concentrated stock position? It is defined as holding one particular stock that comprises 30% or more of your overall investments or portfolio. You may wonder why this is an issue, particularly if you are saving for retirement or the long term.
But it is an issue for a few reasons:
- With so much of your money and your overall investment performance tied to one stock, you are at risk of a higher loss. Unforeseen events can cause a sudden drop in a stock’s value, and a deep loss is sometimes impossible to fully recover from. This is called overexposure.
- Often, concentrated stock positions are a result of an emotional attachment to a particular company; or because you received stock options as either an executive of a publicly traded company or as a family member of a family-owned company. Regardless of the reason, you now lack investment diversification and have created an inefficient portfolio.
What is the best way to handle a concentrated stock position? Like all things involving investing, there is no “one way” to best manage it. And the path you take is of course dependent upon many factors, including tax implications, your personal investment style and situation, and goals. Generally speaking, there are a few strategies you can take to minimize risk, increase diversification, and enhance long-term opportunities:
- Gift Giving: You can gift your stocks to family members or charity as a means of divesting. You are allowed to gift up to $13,000 per year (per recipient) without incurring any taxes. In addition, charitable gift donations of appreciated stock may even provide you with an enhanced tax deduction. You avoid paying capital gains tax on the appreciated stock and may be allowed to deduct the full donation.
- Share Reduction: This approach involves liquidating a large portion of the stock that you have held at least 12 months, which sounds rather quick and simple; however, if you have a gain this can pose a capital gains tax liability as high as 15%. Currently, the federal long term capital gains tax is a maximum of 15% (state taxes vary by state). This could be a worthwhile strategy as the 15% tax rate is set to expire. If you have held the stock less than 12 months, the gains may be taxed as ordinary income.
- Sell Shares Over Time: You may opt to spread-out the tax liability by selling a certain number of shares of the concentrated stock over the course of a few years. This strategy is particularly “low impact” and effective when you are investing over the long term, and if you can afford to take your time. If the long term capital gains tax increases, this may not be an optimal strategy.
- Charitable Remainder Trust: Forming a charitable trust that is funded by appreciated stock transfers is another option. The trust may then provide you with both a charitable deduction and an annual income stream during your lifetime. Upon your death, the selected charity receives the remainder of the funds in the trust.
Other strategies include using more sophisticated alternatives such as writing call options; purchasing put options; using a combination of the two and making a “collar”; or using a Variable Prepaid Forward. These risk management strategies are fairly complicated and require guidance from a qualified advisor.
As Always, a Second Opinion Can Help. Diversifying or re-balancing a portfolio effectively requires study of the investor’s unique personal and financial situation, short- and long-term goals, tax implications, and economic conditions. There is no “one size fits all” – or “crystal ball” for that matter. But there are many resources available to help you find a qualified financial advisor that can give you a second opinion or offer advice.
To find a financial advisor or consult with one for a second opinion, visit:
Heidi Clute, CFP® of Clute Wealth Management in South Burlington, VT and Plattsburgh, NY, an independent firm that provides strategic financial and investment planning for individuals and small businesses in the Champlain Valley region of New York and Vermont. For informational purposes only. LPL Financial does not offer legal or tax advice. Securities offered through LPL Financial, Member FINRA/SIPC.