For executives and long-tenured employees who have built significant wealth through company stock, the case for diversification is rarely what holds people back. What makes the decision difficult is the tax cost of acting on it. Selling a large, appreciated position outright can trigger a substantial combined federal and California tax bill in a single year, consuming a meaningful portion of the proceeds before a single dollar is reinvested elsewhere. That reality leads many investors to hold longer than they should, accepting ongoing concentration risk in exchange for avoiding what feels like a punishing and largely irreversible tax event.

When thoughtfully paired together, a pre-paid variable forward (PVF) and an appropriately leveraged long/short direct indexing strategy can provide meaningful tax savings for those looking to diversify concentrated low-basis stock positions, addressing immediate liquidity, capital gains deferral, and a systematic mechanism to reduce the net tax bill when that gain is ultimately recognized.

Why Can’t a Single Strategy Solve All Four Problems at Once?

Investors holding concentrated equity positions typically face four overlapping challenges simultaneously: managing company-specific risk, accessing liquidity without an immediate tax event, deferring capital gains to a more manageable point in time, and achieving real diversification without relinquishing control of the underlying assets. An outright sale provides liquidity and diversification but triggers the full tax liability at once. A legacy exchange fund defers taxes but locks up capital for seven years, eliminates voting rights, and offers no flexibility. The PVF plus long/short combination is specifically designed to address all four challenges while preserving control and liquidity throughout.

How Do the Two Strategies Work Together?

A PVF allows an investor to monetize 75 to 85 percent of a concentrated position’s current market value in cash upfront without triggering a taxable sale at inception, with the embedded gain generally deferred until shares are delivered at settlement two to five years later. A zero-cost option collar will be placed on the asset which hedges the asset to limit the downside and cap the upside. Depending on how much downside you wish to take will impact how much upside you retain on the asset. Once the PVF terms have been struck and agreements signed, the counterparty will loan you the cash.

Rather than leaving those proceeds idle, they are seeded into a long/short direct indexing strategy that holds both long and short positions in individual stocks. Depending on the magnitude of capital gains you wish to offset, you can choose different levels of leverage that magnify the losses that theoretically can be harvested. The short side generates harvestable losses even when the broader market is rising, building a tax cushion throughout the contract period that may offset a meaningful portion of the gain recognized at settlement. For clients who built a direct indexing portfolio years ago and find it has largely run out of steam on the harvesting front, the long/short version can breathe new life into the strategy. However, long/short direct indexing tends to produce larger capital losses if funded by cash versus ossified direct indexing strategies, which is why the PVF pairing remains attractive.

What Does This Look Like Over Time?

In year one, the PVF is implemented and 75 to 85 percent of the position’s value is received in cash with no immediate tax event. Those proceeds seed the long/short portfolio, which begins generating harvestable losses immediately. For California residents, where long-term capital gains face a combined federal and state rate of up to 37.1% for high earners and short-term gains can push toward 54% when combined with the 3.8% Net Investment Income Tax (NIIT), those harvested losses are particularly valuable. Over the following two to five years, the long/short strategy continues building that loss inventory while the PVF hedges the remaining concentrated exposure. At the end of the contract period, either the loan is paid back with the pledged shares, or the PVF can be rolled into a new contract, extending the timeline and allowing the investor to continue accumulating losses while systematically unwinding the position over a three to five year period.

What Are the Key Risks to Understand Before Moving Forward?

This strategy requires close coordination between financial, tax, and legal advisors. Key considerations include:

• Positions subject to insider trading restrictions or Rule 10b5-1 plan requirements need careful legal review before structuring
• The financing embedded in the PVF carries an implicit cost that reduces the effective upfront payment, and interest expense is capitalized rather than deductible
• The cost of the long/short direct indexing managers can be significant and will eat into any tax savings the longer this strategy runs
• The investor retains the full tax liability on the deferred gain regardless of what the stock does between now and settlement
• The long/short strategy involves leverage and active management, which may carry higher fees than a standard index portfolio, and the quality of the short book directly affects how much tax benefit the strategy delivers
• Dividends on the concentrated position lose their preferential tax treatment once the PVF is in place
• This isn’t a strategy that should be an enduring part of a portfolio, rather it should be thought of as a specific tool to help diversify a concentrated stock position and potential tax savings; there should be an exit plan in mind when going into this strategy, such as a step up in cost basis on death, charitable giving, section 351 exchanges, etc.

Who Should Consider This Strategy?

This approach tends to make the most sense for investors with a large, low-basis concentrated position who need liquidity in the near term but are not ready to absorb the full tax cost of an outright sale, and who have a multi-year horizon to let the strategy work. Bringing this conversation in early, before a capital event rather than after, tends to create more options and better outcomes. At Traveka Wealth, we work with clients across Los Altos and the Bay Area to think through concentrated position strategies as part of a coordinated financial and tax plan. If you are sitting on a significant position and want to understand what this approach could look like for your situation, reach out to our team to start the conversation.

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This material is for informational purposes only and does not constitute an offer to sell or the solicitation of an offer to purchase any security or investment product or services. The content of this material is provided solely for your personal use and shall not be deemed to provide access to any particular transaction or investment opportunity. Traveka Wealth, LLC (“Traveka”) does not intend the information in this material to be investment advice, and the information presented in this material should not be relied upon to make an investment decision. Any third-party information contained herein was prepared by sources deemed to be reliable but is not guaranteed.  All opinions expressed by the participants are solely opinions and should not be relied upon as potential or actual results.

Certain of the information contained herein has been obtained from third- party sources and has not been independently verified. It is made available on an “as is” basis without warranty. Any strategies or investment programs described in this presentation are provided for educational purposes only and are not necessarily indicative of securities offered for sale or private placement offerings available to any investor. 

The views expressed in the referenced materials are subject to change based on market and other conditions. This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance; actual results or developments may differ materially from those projected. Any projections, market outlooks, or estimates are based upon certain assumptions and should not be construed as indicative of actual events that will occur. Historical performance results for investment indices and/or product benchmarks have been provided for general comparison purposes only, and do not include the charges that might be incurred in an actual portfolio, such as transaction and/or custodial charges, investment management fees, or the impact of taxes, the incurrence of which would have the effect of decreasing historical performance results. If performance fees are stated, the performance returns are net of fees which include expense ratios and other fees of the underlying investments but does not include Traveka’s advisory fees. Traveka’s advisory fee will reduce the returns shown in this document.