February Monthly Tax and Financial Update
By Chirag Sharma, Jack Hounsell, & JoAnna Billete

 Key Takeaways

• The Fed signaled that policy easing may not be as imminent as the market originally thought with rate cuts now forecasted to begin in May or June.
• Although geopolitical risks stemming from Red Sea attacks have increased shipping costs, these are modest relative to COVID-era disruptions and analysts do not foresee a big inflationary impact. 
• We detail pivotal tax strategy deadlines relating to trust and estate planning. These savvy moves can provide potential tax advantages by shifting tax liabilities.

The Fed and Inflation

Fed holds steady

As widely anticipated, the first Federal Open Market Committee (FOMC) meeting of the year saw the Fed leave the Federal funds rate unchanged at a target range of 5.25%-5.50%. Prior to the meeting, the market was anticipating rate cuts most likely beginning in May, with the odds of March cuts approximating a coin flip. However, some notable changes in the FOMC’s language caused market participants to recalibrate their expectations. The committee’s statement explicitly stated that “the committee does not expect it will be appropriate to reduce the target range” until inflation is sustainably moving towards 2%, and Powell suggested that recent economic data does not lead him to believe that a first rate cut in March is likely. As a result, futures markets are now predicting only a 20% chance of rate cuts beginning in March, and a much higher chance of them beginning in May or even June. Current pricing indicates a 60% chance of at least one cut by May and a 95% chance of at least one cut by June.

Growth is still strong as evidenced by Q4 GDP coming in at 3.1% annualized, far exceeding consensus expectations of a 2% increase: The Fed is being cautious about cutting interest rates given the strength in growth of the economy. While labor data has also remained tight with December job gains coming in at 216,000, it is unlikely that these sorts of economic prints, along with inflation progress that has slowed in recent months, will give the Fed any reason to begin cutting interest rates prematurely. Since the beginning of this hiking cycle, it has been emphasized by many that lowering inflation from 4% to 2% would be more of a challenge than the initial stages of the process. This appears true, and it is looking as though the Fed still sees sticky inflation as a more imminent risk than the economy slipping into recession.

Geopolitics

Red Sea Shipping

Geopolitical risks have played a significant role in markets over the past several years, and 2024 is expected to be no different. Over 40% of the world’s population is eligible to vote in their national elections this year, which began with the general election in Taiwan in mid-January and will conclude with the U.S. presidential election in November. Moreover, the continued war in Eastern Europe and the developing conflict in the Middle East may have investors uneasy about putting capital to work.

Investors have reason for concern; freight costs have spiked due to attacks by Houthi rebels in the Red Sea and, as shown below, have risen by ~130% since the end of October. The economic implications could spill over into commodities and core goods, as well as oil and gas prices. Core goods inflation, which showed evidence of disinflation all last year, and are in outright deflation on a 3- and 6-month annualized basis, could reverse higher, complicating the Fed’s objective of controlling inflation down to 2%. Moreover, a spike in oil prices could lead to higher prices at the pump, eroding consumer confidence and spending and further disrupting the broad disinflationary trend.

While these events pose a risk, so far, the rise in global shipping costs stemming from these tensions look modest relative to COVID-era disruption. In addition, the number of tankers transiting through the Red Sea have fallen by more than half over the past six months, suggesting voyages have already redirected to avoid routes impacted by conflict and are still transporting goods, albeit on a longer trip, around Africa. Barring any further escalation, analysts do not foresee a big inflationary impact on imported goods. Furthermore, oil prices are likely capped due to declining demand globally, suggesting Brent oil should settle between $70-$90/barrel, according to a JPMorgan global strategist.

In addition, they suggest that firm labor markets and gradually cooling inflation should keep the Fed on hold until the summer. At the very least, near-term supply-side risk decrease the odds the Fed will begin cutting rates as soon as March.

Tax Updates

Navigating Upcoming Tax Deadlines: A Focus on Estate and Trust Strategies

With the arrival of March 5, 2024, just around the bend, it’s crucial for professionals managing trusts and estates to gear up for pivotal tax strategy deadlines under Sections 663(b) and 643(g). This period marks a vital opportunity for astute tax planning and implementation. 

Delving into Section 663(b), we find the 65-day rule, a strategic lever for complex trusts and estates. This provision enables the treatment of distributions made to beneficiaries by March 5, 2024, as if they occurred in the preceding year, 2023. To leverage this, trustees must make actual distributions within this time frame and elect this treatment on their tax 2023 filings. This approach can strategically redistribute tax liabilities, moving them from the trust or estate onto the beneficiaries. This shift can be a savvy move, offering potential tax advantages under the right conditions.

Now, let’s look at Section 643(g), which brings trusts, and particularly estates in their final year, the opportunity to allocate estimated tax payments to beneficiaries. To implement this strategy, it’s essential to file Form 1041-T by March 5, 2024, for the 2023 tax year. This approach is especially helpful for trusts or estates that have diligently overseen their tax obligations throughout the year, only to realize they’ve paid more than necessary. Redirecting these extra funds to beneficiaries, especially in cases where the trust or estate is already distributing income to them, can create a more tax-efficient scenario. It is important to note however that unlike trusts, this election can only be elected by estates filing their final year tax return. 

Implementing these strategies introduces a layer of adaptability in the reconciliation of tax liabilities between trusts/estates and their beneficiaries after the year’s end. However, given the intricacies involved, it’s prudent to consult a tax professional to ensure these opportunities are fully utilized and compliant.

Please reach out to our Family Office Team with any additional questions.