Is Your Financial Advisor a Tax Deduction?
Allow me to explain what this means. Investment management fees are a tax-deductible expense. They can be reported on Line 23 under Schedule A, Itemized Deductions, subject to 2% of your adjusted gross income. The Internal Revenue Service allows you to deduct certain investment expenses incurred on your taxable investments. These types of deductible expenses include costs associated with paying for professional advice such as tax, legal and financial fees.
However, there are limitations and we recommend you work with your tax professional to identify which expenses may qualify. For example, there is a difference between an investment management fee and paying a commission for the purchase of a financial product. And according to the IRS, the latter is not a tax deduction.
For instance, if you were to purchase a mutual fund through a brokerage firm, generally speaking, the fees you paid, whether they are disclosed or hidden, are most likely not considered a tax deduction and cannot be reported on your tax return to reduce your income tax liability. On the other hand, if you work with a Registered Investment Advisor, and the fees you paid are considered investment advice, then those fees may be eligible to be reported on your tax return to reduce your income tax liability.
Why should this matter to you? Let’s illustrate the potential tax savings using a hypothetical example. Imagine you have $1,000,000 in a managed account with an investment management fee of 1%. The total fees would be equal to $10,000. If this hypothetical taxpayer is in the 25% tax bracket, this could be a potential tax savings of $2,500.
Studies show that most people are not aware of the total fees they are paying for their investment accounts. Keep in mind there may be both disclosed and undisclosed fees in your investments. Here’s my recommendation, when you sit down with your tax professional this year, if you learn that the investment fees you paid are not reportable on your tax return, and therefore do not qualify for a tax deduction, you just might want to make a change in how your investments are managed.