The Vehicle

Gold as an investment is as old as it is controversial. Warren Buffett is not a fan of it. 1 First Eagle Global Value Fund's senior leader Jean Marie Eveillard believes gold "cannot be overvalued." 2 Former Federal Reserve Bank chief Alan Greenspan ruminated even ruminated on gold recently: "Gold is a currency. It is still, by all evidence, a premier currency. No fiat currency, including the dollar, can match it." 3 This article, however, is not a case for gold. For those who are already sold on gold, this is a case for holding these investments inside a variable annuity.

How an investor buys gold is an important part of the equation. This is partially because of the high costs of investing in the physical commodity. Between storage, insurance, and premiums on gold, it can get expensive to own. It's also important because of taxes. Gold is taxed at one of the least favorable rates in the United States: it's taxed at the "collectibles" rate of 28%. At that rate, gold needs to outperform other investments substantially to break even with them after taxes.

As Marketwatch explains, investors in the 28%, 33%, 35%, and 39.6% brackets are taxed at 28% on their net long-term gains on gold and precious metals. High income investors who owe the 3.8% net investment income tax may end up paying the maximum effective federal rate of 43.4%4

Given that gold is a tax-inefficient investment, it should be sheltered in one of the many available structures. These range from the very flexible (IRA, Roth IRA, etc.) and the somewhat flexible (401(k), 403(b), SEP-IRA) to the less flexible "gold IRA's." As a means to inexpensively invest nearly unlimited sums with tax deferred growth, Investment Only Variable Annuities deserve a place in this conversation. Broadly speaking, they're a good place to hold tax inefficient assets for long periods of time. What fits that bill better than gold?

Gold is taxed as a "collectible" federally

Variable Annuities offer tax deferred growth

IOVA's feature many investment options such as gold options

Flexibility

Owning physical gold may be the least flexible means of investing in gold. Given that gold produces no income, getting any returns from physical gold (as with most commodity-linked investments) requires selling the gold for a profit. Doing so on large investments of physical assets can be unwieldy and expensive, and reinvesting the proceeds can be costly in terms of time and effort of getting into other assets.

Most of the various tax shelters mentioned above much more flexibility. In a Brokerage IRA, an investor can liquidate an investment and move it into nearly unlimited options in a very timely manner. Many 401(k) and 403(b) programs allow for transactions, but on a much less immediate time frame, and reinvestment options are much more limited. Investment Only Variable Annuities have the rapid experience and unconstrained transactions of a Brokerage IRA, but investment options (while expansive) are limited to Fund investments (much like a 401(k)).

Beyond transactional flexibility and liquidity, the Investment Only Variable Annuity (IOVA) allows investors to invest in gold-related investments additional to gold itself. These include stocks of gold miners, which pay dividends and can perform differently from the commodity itself. They also include gold as a part of a hard asset portfolio- that is, one of many physical assets such as Real Estate, precious metals, and industrial commodities.

Flexibility is also important for gold investors who prefer to be proactive in their long-term risk-hedging. Gold has a negative relationship with inflation, for example. It often goes up in price when inflation increases. It doesn't tend to do as well when inflation is low or there is outright deflation (that is, a decrease in values of goods and services). Long term bonds and certain Real Estate investments tend to do well during deflation. These investments are also tax-inefficient, and great for a tax deferred account. An investor could efficiently shift hedges- or maintain hedges over very long periods- with tax deferred growth within a Variable Annuity.

Investment Only Variable Annuities

Investment Only Variable Annuities (IOVA's) utilize the unique tax deferral structure of the Variable Annuity while deemphasizing other insurance-like qualities of annuities. Variable Annuities themselves are complex and have many possible structures and uses: as a means of achieving risk-hedged long-term income streams, a vehicle of transfering wealth, or, in the case of IOVA's, as a tax deferred investment vehicle.

The IOVA investor has investment options that range from Hard Assets and commodities (such as gold) to actively managed funds from equity and fixed income fund families (such as T. Rowe Price and PIMCO) and low cost indexing options (including Vanguard and DFA funds). To learn more about the Investment Only Variable Annuity, visit our introduction to the IOVA.

Order of Operations

To be clear, we aren't advocating running out and buying a Variable Annuity to house precious metals allocations of your portfolio. We like to see a judicious use of all available options before using an annuity. An Individual Retirement Account (IRA) is all some people need, and when it comes to taxes, it can be the best option.

After that, workplace retirement accounts should be used up absent some extreme mitigating factor. For many families, a maxed-out IRA and 401(k) can replace 80% or more of income in retirement years, given a long enough timeline and an efficient approach. SEP-IRA, SIMPLE IRA, and other small business retirement plans can also meet these needs when available. Taking advantage of employer contributions is crucial for retirement savers.

After those resources have been used, that's when annuities become potentially useful. Particularly where very large lump sums of taxable money is received in a given year (an inheritance, for example), other tax deferred investment options may not be available when they're needed most. Imagine paying 43% taxes on precious metals capital gains over multiple decades- the tax inefficiency of doing so may equal years worth of income on high enough sums.

Multiple Strategies

There's no reason an investor, saver, or "stacker" can't use multiple strategies of precious metals ownership. One could keep a "stash" of physical gold and/or silver in personal possession while holding larger, more tactical allocations in a tax-privileged account. For those very concerned with having physical alternative liquidity, this might be appealing. Particularly because gold held in physical possession is rarely sold outside of a monetary crisis, the tax implications of this strategy may never be realized.

What's important is finding the most appropriate place to hold tax-privileged precious metals investments. One doesn't need some gold in an IRA, some in a 401(k), and some in a Variable Annuity. Often, one of these will be better than the other as an option (perhaps the 401(k) has high expense fees on its gold option while the IRA has low expenses, for instance). We highly recommend seeking assistance from an investment and/or tax professional in making such a decision.

 

Maximum Retirement Plan Contributions 2017

5500
$ Roth & Traditional IRA
1000
Roth & Traditional IRA 50+ Catchup
18000
$ 401(k) & 403(b)
6000
$ 401(k) 50+ Catchup
54000
$ SEP-IRA & Solo 401(k)
12500
$ SIMPLE IRA
6000
$ SIMPLE IRA 50+ Catchup

Gold as an Investment

Gold has been circulated as money since King Croesus of Lydia (circa 550 B.C.). 5 Since then, it's taken many forms as a monetary unit: in the Austro-Hungarian Empire, the Ducat was used as gold bullion, in Venice it was the gold Florin, and the Spanish pisotle was a standard of international trade after the discovery of the New World.

It wasn't until 1900 that the United States declared the gold standard. It lasted until the Nixon administration, which ushered in the "fiat" currency era. Today, gold as an investment has been somewhat removed from its use as money. Many Central Banks still use reserves of gold, and global currency reserves provide a baseline of demand for precious metals. Nonetheless, investors need not believe that gold is money to be a gold investor: investors need look no further than correlations with other asset classes and macroeconomic factors such as inflation to find value in precious metals.

Growth of $1 (1926-2016)

Wheat$2.26
Inflation$13.42
Silver$14.67
Treasury Bills$20.80
Gold$54.58
Oil$54.87
5-Year Treasuries$96.17
20-Year Treasuries$134
S&P 500$6,038
Small Cap Stocks$32,362

Conclusion

Gold may be worth your time as an investor, and it may not. We're certainly of the opinion that all investment decisions need to be made on an individual case-by-case basis. If gold is something you're committed to, first make a tax-savvy strategy. As we've shown, an Investment Only Variable Annuity deserves some consideration as a suitable vehicle for long term precious metals investing. In any case, the consequences of not having a tax conscious approach to gold investing can be costly.

Join Our Business & Economics Newsletter

Thanks for joining us in our discussion of gold investing. This is just a first step in discussing precious metals- we hope to write about gold at more length in the future.

All information from this article from Marketwatch, the IRS, St. Louis Federal Reserve, the BBC, and I.B.F.

Meet the Author & Portfolio Manager

Victor Schramm is a Certified Fund Specialist (CFS®), with expertise in Mutual Funds & Variable Annuity Separate Accounts. He focuses on long term investing geared toward our annuity clients as a Fee Only Investment Advisor. He lives in Portland, OR.

Victor Schramm, CFS®Analyst & Portfolio Manager

Disclaimer:

This information is solely a representation of publicly available facts intended for educational use only. This is not a solicitation to buy or sell any public or private Security, in any city named in the article or elsewhere. No information provided here about gold or precious metals is to be used as a market timing tool for buying or selling any security. Precious metals are very complex investments that require a high degree of due diligence- this article is not investment diligence or investment advice in any form. We are not a tax consultant or CPA firm- this article is not tax advice.

Leave a Reply

Your email address will not be published. Required fields are marked *