Should Roth be 100% in stock?

[Karl]

My elderly mother has an Roth that's a 50/50 mix of stock funds and ST bonds. Since one wants the highest returning asset in a Roth (for tax-free growth) I just realized I should change it such that her Roth is 100% in stocks. This is money she'll never spend in her lifetime and which will pass to me & I'll take RMDs over my life expectancy, so the account will be around for another 40+ years.

The change can be accomplished without any overall change in asset allocation, since I can sell stock funds in my inherited traditional IRAs and move it into ST bonds, offsetting any changes in her Roth. I have POA and I manage our portfolios as one whole, seeing how I'm the beneficiary and this isn't money we ever expect her to need in her lifetime.

I assume the rest of you likely try to fill your Roths with stocks first, right? Lacking a crystal ball, we don't know what will produce the highest returns going forward, though we must reasonably guess it will be stocks.

I assume you'd all agree on allocating the highest returning asset to a Roth first, right? Back in ye olden days we had to think about sheltering the yield of bonds which added complexity to this as you might want the higher yield in the Roth, even though it's the lower total return. Seems near-zero fixed income yields have simplified that, as stocks are now both what you expect to return the most & they yield more than most fixed income investments as well.

[MN Finance]

There are a lot of discussions on this. It's simple financial article speak to say you put your highest growth potential in the Roth, but in reality it's not that simple. If you allocate all your tax free space to stocks, you are now effectively taking on more risk than otherwise assuming you keep the dollar amounts the same. Many don't adjust for the after tax values because it's too messy, but if you're talking about a significant sum, then it should be considered.

If you have an IRA with $50k in stocks and a Roth with $50k in bonds, you could say that you only own 75% of your IRA since the gov't will get their taxes, so your net allocation is like 40/60 (when you think it's 50/50). But if you reverse that and have a Roth with $50k in stocks and an IRA with $50k in bonds, now you have an allocation that's effectively like 60/40.

Again, if the Roths are small relative to everything else, it doesn't really matter. But if it's a decent size, then this is a consideration.

[rock_marmot3]

It feels a little weird to me for you to be laying claim to this money and investing it as if it were yours while your mother is still alive.

If this is just money that she's keeping around in case of an emergency and which she doesn't need to draw down to live on, then it should be invested like an emergency fund: in cash or instruments nearly as riskless as cash.

If she's able to meet her daily expenses and maintain a buffer of emergency funds, all without relying on this money, then she should spend it on something she enjoys! Go on a nice vacation, buy some art, get a new car, that kind of thing... she's earned this money, and she only lives once.

[Calm Man]

Thank you for the post. [Personal attack removed by admin LadyGeek]

[WHL]

The Wiki provided on this website for tax effective placement of funds says that bonds and REITs should be the priority in a Roth. That is the way I have my portfolio set up.

[MN Finance]

I wouldn't be so quick to dismiss the OPs question based on a judgment of whether or not it should be invested in concert with his/her own investments, since there's no real information to pass judgment on that. Depending on the circumstances and fiduciary duties, the money may be JUST as imprudently invested if it's in cash for an 86 year old (or imprudent to spend on something she "enjoys", since passing the money to her family may JUST be that thing).

[Karl]

Thank you for the post. [Personal attack removed by admin LadyGeek]

[Response to personal attack removed by admin LadyGeek] She turns 84 this year and I've managed her money with great care for many years. You assume she has to lose for me to win, yet that's not the case at all.

Who would you prefer manage her money? She has no interest in nor knowledge of investing, despite my sincere efforts to teach her and keep her informed of her investments. My father can't manage it as he's dead -- and he had little interest in investing when he was alive, largely handing that task off to me two decades ago. Should I toss her to a pack of wolves called financial advisors, who'd be so kind as to put her in whatever makes them the largest commission? There are ethical exceptions like our own Rick Ferri, though I've gone to enough seminars put on by advisors to know how one can keep a running tally of all the lies most spew.

The fact that I'm beneficiary some might think influences how I manage her money. And they'd be right. I have a vested interest in managing her money as well as I possibly can. Show me somebody else who will manage her money with such a degree of care & concern and without a fee. And that makes me evil?

[Karl]

It feels a little weird to me for you to be laying claim to this money and investing it as if it were yours while your mother is still alive.

Since she has no expectation of spending the Roth within her lifetime, it only makes sense to manage it as a family legacy that will live on for decades to come. It's not as if I sit around waiting for her to die as some seem to imagine. Nothing is certain; I don't know how long I'll live. It's possible I could die before her; she's already out-lived one son.

If this is just money that she's keeping around in case of an emergency and which she doesn't need to draw down to live on, then it should be invested like an emergency fund: in cash or instruments nearly as riskless as cash.

Given the tax advantages of a Roth this would be the last pile of money that she'd spend. She'd only spend this Roth in the unlikely event that she burned through every last cent in her taxable accounts first. Anything is possible, though it's quite unlikely she'll ever get around to spending this Roth.

If she's able to meet her daily expenses and maintain a buffer of emergency funds, all without relying on this money, then she should spend it on something she enjoys! Go on a nice vacation, buy some art, get a new car, that kind of thing... she's earned this money, and she only lives once.

She isn't into vacations, nor art. She doesn't drive & never did, so we can forget about a car. She's simply not into spending. She remembers the Great Depression and how tight things were back then. To her the thrift of the 1930s has never gone out of style.

[JamesSFO]

Judgments aside, if she truly is unlikely to need the money then putting the highest predicted return item in the Roth, e.g. (intl) stocks, is probably the right choice.

[chrisj]

Karl - don't let the character attacks get you down.

I'm in a similar position as you (widowed mom, I manage her finances, she's not interested in money at all, she's frugal despite having plenty, etc.). It seems clear to me that you are acting in your mom's best interests while being rationally forward thinking. As long as you ask her what she wants and continue managing her money in good faith, I see no reason you should feel any guilt.

To your question, as WHL noted, you might want to have bonds and REITs in your Roth instead of stocks. Reason being, bonds & REITs generate a lot of dividends that would be more efficient in a tax sheltered account. Of course, the optimal answer depends on your mom's and your current asset allocations across accounts.

If you want specific advise, you'll need to provide specific asset allocation / account types.

Otherwise, you might just be over thinking it

Chris

[WendyW]

It feels a little weird to me for you to be laying claim to this money and investing it as if it were yours while your mother is still alive.

Nonsense. You can feel however you want, but OP's view is exactly how a professional money manager would assess the situation.

An 84-year-old woman has a life expectancy of about 7 years.

If mom is doing everything she wants to and burning through, say, $100k a year, she is unlikely to spend much more than $700k in her lifetime.

A portfolio that is far in excess of $700k should be invested aggressively, since the majority of the excess amount is, as the OP correctly points out, going to be passed to the next generation.

[Karl]

...you might want to have bonds and REITs in your Roth instead of stocks. Reason being, bonds & REITs generate a lot of dividends that would be more efficient in a tax sheltered account.

Yes, if one is going to hold REITs they'd definitely belong in a Roth (if possible). The limited amount or REITs we both hold are in Roths. I used to be quite a big fan of REITs, though have sold off most of that asset class due to valuations that I feel are simply too high, due to investors chasing yield.

As for bonds, the bonds held in this Roth is Short-Term Inv-Grade Admiral with a yield of 1.20%. You'll note that most stock funds yield more than that.

[WHL]

Judgments aside, if she truly is unlikely to need the money then putting the highest predicted return item in the Roth, e.g. (intl) stocks, is probably the right choice.

Again, that's completely contrary to the wiki page provided on this website regarding tax efficient placement of funds. I'm sure the situation may vary from person to person but as international funds are considered to be very tax efficient with the foreign tax credit I would take a second look before proceeding.

[Bob's not my name]

I assume you'd all agree on allocating the highest returning asset to a Roth first, right?

Absolutely not. http://thefinancebuff.com/stocks-or-bonds-in-roth.html

Is her estate at risk of a state estate tax? Many states have a low exemption, such as $1M, and that amount is a conservative reserve for assisted living and nursing care expenses at end of life -- depending on where you live, this can cost $100k/year. You have to consider the state she lives in now and any other state she might move to. If you put her assets mostly in stocks, a bull market might put all the growth on the wrong side of the estate tax -- better to have it in the IRAs you've already inherited.

What assets does she have in taxable space? The tax code is now permanently munificent toward wealthy low earners, so, notwithstanding the low yield of bonds, it still seems to me she'd want to be taking advantage of the massive 0% bracket for the idle rich by holding stocks in taxable. I assume she must have either huge assets outside the Roth or a huge pension, since you're confident she'll never need the Roth. Which takes me back to the estate tax concern, too.

Ignore the attacks on your character. Happens to every boglehead who posts about estate management.

[The Wizard]

It feels a little weird to me for you to be laying claim to this money and investing it as if it were yours while your mother is still alive.

Nonsense. You can feel however you want, but OP's view is exactly how a professional money manager would assess the situation.

An 84-year-old woman has a life expectancy of about 7 years.

If mom is doing everything she wants to and burning through, say, $100k a year, she is unlikely to spend much more than $700k in her lifetime.

A portfolio that is far in excess of $700k should be invested aggressively, since the majority of the excess amount is, as the OP correctly points out, going to be passed to the next generation.

This is untrue.
Aiming for the 50th percentile in longevity for financial planning purposes is a Grievous Mistake.
She could live to 98 or 100, then what?

[jaj2276]

Wow, I can't believe all the conclusions being jumped to about why the OP is managing his mother's money. A lot of the assumptions are really mind boggling.

My opinion on the actual question asked by the OP is to consider the portfolio with regards to current needs first, tax efficiency second, estate planning third, and optimal returns last. My assumption is that you've already done most of these and so this response won't actually provide much insight.

1) Determine the income needed and create a mix of bonds/stocks in taxable that will allow a steady income and/or ability to cash in assets without too much worry on whether you'll be cashing during a wrong time. I believe these should go in taxable.
2) Put remaining tax inefficient in Roth.
3) Possibly reverse some of #2 if the Roth somehow allows you to pay some lower tax in the future but doesn't put you or your mom in a higher tax bracket (i.e. the income produced by tax inefficient in taxable is too much so pushes the person into a higher tax bracket).
4) From remaining assets, put the highest expected returns in Roth.

While I treat my funds in my Roth as part of an entire portfolio, I do like that my Roth has both stocks and bonds in it. I won't be worse case (100% stocks) or best case (100% stocks) in my most tax efficient vehicle, but I'm ok with that.

[sometimesinvestor]

A minor problem with all stocks is that the tax code provides no benefit if you are wrong. In taxable you can deduct loses and in a traditional IRA if your portfolio drops you owe less taxes(only a minor compensation I understand )By having some bonds etc you can at least rebalance to bail you out of a bear market)

[JamesSFO]

Judgments aside, if she truly is unlikely to need the money then putting the highest predicted return item in the Roth, e.g. (intl) stocks, is probably the right choice.

Again, that's completely contrary to the wiki page provided on this website regarding tax efficient placement of funds. I'm sure the situation may vary from person to person but as international funds are considered to be very tax efficient with the foreign tax credit I would take a second look before proceeding.

Actually, you raise a good point: we don't have the full asset allocation information for the OP's grandmother or her (safe) withdrawal rate. I was assuming she already had tax inefficient things like bonds [or REITS] in other places. Assuming that her AA of things like bonds were taken care of, you are looking at what to put in that Roth, to get the highest value for grandma, and that is not going to be more bonds, so your choices are domestic/int'l stocks. VG's ask a CFP plan will prefer intl stocks into the Roth over domestic stocks in this scenario, so it strikes me as a reasonable choice. That said I can see the contrary argument.

[Browser]

I agree completely with the OP that you should consider your entire wealth in determining your asset allocation. That includes your future inheritance, your human capital, your future or current entitlements such as social security, pensions, etc. So, acting in the best interests of your mother assumed, there's nothing incorrect about taking her Roth IRA into consideration as part of the big picture.

Having said that, the OPs question was about asset location: does it make sense to locate equities in a Roth IRA? I've dealt with exactly this question in my own situation. The argument for doing so is that equities are the highest growth asset and overall tax burden can be reduced by doing that. On the other hand, the risk of equities is that you can't assume what future returns will be. Over the last 30 years, for example, it was bonds that were the highest returning asset class, not equities, and you would have been better off with your bond allocation in your Roth.

I finally decided that it made the most sense for me to have a similar allocation in all of my tax-deferred accounts, to the extent choices were available to do so: TIRA, Roth, and 403(b). I modified this because certain assets were available in particular accounts but not in others: for example, in TIAA the Real Estate account is available, so I located my RE allocation there. Also, the Traditional account - like a stable value fund - is available there so I located my allocation to that asset in TIAA. And so forth. Don't know if there's one right answer to this. It depends entirely on a person's circumstances and how best to divvy up asset location within their overall asset allocation plan. I just wouldn't necessarily give too much weight to the expectation that stocks will always be the highest returning asset, even over long periods of time. We know from financial experts that the risk of equity losses does not decrease over time, so there are no guarantees.

[Calm Man]

Thank you for the post. [Personal attack removed by admin LadyGeek]

[Response to personal attack removed by admin LadyGeek] She turns 84 this year and I've managed her money with great care for many years. You assume she has to lose for me to win, yet that's not the case at all.

Who would you prefer manage her money? She has no interest in nor knowledge of investing, despite my sincere efforts to teach her and keep her informed of her investments. My father can't manage it as he's dead -- and he had little interest in investing when he was alive, largely handing that task off to me two decades ago. Should I toss her to a pack of wolves called financial advisors, who'd be so kind as to put her in whatever makes them the largest commission? There are ethical exceptions like our own Rick Ferri, though I've gone to enough seminars put on by advisors to know how one can keep a running tally of all the lies most spew.

The fact that I'm beneficiary some might think influences how I manage her money. And they'd be right. I have a vested interest in managing her money as well as I possibly can. Show me somebody else who will manage her money with such a degree of care & concern and without a fee. And that makes me evil?

I am not questioning whether you are the best to manage her money. I am also not making a judgement other than reading what you wrote and just rewrote. You said you want to manage your mother's ROTH so as to mesh with your allocation. So you are not managing it for her because if you were no 84 year old would be considered a candidate for all stocks. As long as you can sleep well then obviously do what you want to do. I am writing these responses far more for other forum members than you, as you are convinced of your position, and that is your right in this free country.

[MN Finance]

no 84 year old would be considered a candidate for all stocks.

I'm not sure that's the proposal since the OP is only talking about making the Roth 100% stocks and then reducing the stock allocation in other accounts. And that said, it's certainly far from accurate to say "no" 84 year old should be all stocks. Most, would not be, but certainly not all.

When I had POA on my grandmother's estate (she was 89), she had 100% of her remaining assets in 1 stock. It was exactly the appropriate allocation for her (without getting into the details).

[bdpb]

VG's ask a CFP plan will prefer intl stocks into the Roth over domestic stocks in this scenario, so it strikes me as a reasonable choice.

If you do go with all stocks in the Roth, you should hold more than one asset subclass. You should consider 50/50 US and Intl. and rebalance regularly since both have approximately the same return and have a correlation less than one. To go the full monty you might consider 50/50 US Small Cap Value and Intl Small Caps.

[Browser]

As a postscript, I looked at the returns from a 100% allocation to TSM vs. 50% TSM / 50% Intermediate Treasuries over the last 40, 30, 20, and 10-year periods. The advantage of 100% TSM over both the 40-year and 30-year periods was approximately 0.5% compounded annually. 50/50 and 100% equities had about the same compounded return over the last 20 years, 50/50 beat 100% TSM over the last 10 years by 2% annually. The benefit of 100% in equities doesn't seem to be that overwhelming even over fairly long time periods. If I knew that my mother would never need to draw on the Roth, that I wouldn't need to draw on the inherited Roth during my lifetime, and it was highly likely that distributions then be could stretched by my grandchildren over a very long period of time based on their life expectancies, and perhaps even beyond to their children, I might consider it.

[Browser]

As another poster mentioned, some states impose an estate tax and may include the value of tax-deferred accounts in determining the tax. If you live in one of those you probably should investigate the implications for your situation. The laws change frequently so this needs to be kept track of. For example, Illinois eliminated it's estate tax and reimposed it in 2011. If you have named beneficiaries for your tax-deferred accounts, then your estate tax can't be paid out of your estate before the accounts are received by your beneficiaries. That means they will have to pay it, perhaps by liquidating some or all of the accounts and thereby also getting kicked into a higher income tax bracket that year (unless it is a Roth). Here is the list of jurisdictions that collect a state estate tax as of September 1, 2013:

Connecticut
Delaware
District of Columbia
Hawaii
Illinois
Maine
Maryland
Massachusetts
Minnesota
New Jersey
New York
North Carolina
Oregon
Rhode Island
Tennessee
Vermont
Washington

[Karl]

^Thanks for the list, Browser. Nice to see Wisconsin isn't on it.

[Browser]

^Thanks for the list, Browser. Nice to see Wisconsin isn't on it.

They being one of the higher-taxing states, that might not last.

[Karl]

I see that my question might have been poorly phrased, as the wisdom of putting a Roth 100% in stocks is something that depends entirely upon context.

Let's say a Roth was the only investment account an elderly individual had. In that case, it would be an absolutely terrible idea for most.

That isn't the case here. Here exists different types of accounts and the question is how to best allocate those assets between accounts that have different tax treatment. This isn't a question of whether my mother should have 100% of her assets in stock (she doesn't & a 100% stock allocation for her entire portfolio would be absolutely insane IMO). A significant amount of her overall portfolio is made up of ST bonds & cash, in addition to a fixed annuity that earns a guaranteed minimum of 4%. That annuity isn't being touched since 4% is a fantastic rate in 2013 (when issued in 1994 nobody would have ever thought that minimum would look exceptional two decades later).

[Karl]

^Thanks for the list, Browser. Nice to see Wisconsin isn't on it.

They being one of the higher-taxing states, that might not last.

Yes, that's one of the many unknowns we must deal with when investing.

Over the last 30 years, for example, it was bonds that were the highest returning asset class, not equities, and you would have been better off with your bond allocation in your Roth.

And that's yet another unknown you brought up. Anything is possible, and we could have another 30 years during which bonds beat stocks, which would give us an unprecedented 60-year span in which stocks are not the winner. I don't think that's likely. If I did, I wouldn't want to own any stocks at all, though I recognize that anything is possible. I'd have to say prospects for bonds don't look great when yields are this low. The highest yield on any Vanguard bond fund is HY Corp Admiral at a mere 4.40%. Seems that if bonds manage to beats stocks over the next 30 years it will have to be by stocks producing abysmal returns that stink even worse than the dinky yield on bonds.

Toss in other unknowns like how long my mother will live & how long I will live and trying to plan is enough to produce a major headache. All I can say for sure is that I've lived long enough to know that's nothing's certain.

[cinghiale]

My Roth IRA is 100% in Wellesley Income, a nice balance of stock exposure and bond stability. It will do a good job for your Mom (and you) whether she never touches the funds in her lifetime or beats all the odds and lives to 101 years old. Also, it's stock/bond allocation may be a nice averaging of "age in bonds" between you and your Mom.

[Browser]

And that's yet another unknown you brought up. Anything is possible, and we could have another 30 years during which bonds beat stocks, which would give us an unprecedented 60-year span in which stocks are not the winner. I don't think that's likely. If I did, I wouldn't want to own any stocks at all, though I recognize that anything is possible. I'd have to say prospects for bonds don't look great when yields are this low. The highest yield on any Vanguard bond fund is HY Corp Admiral at a mere 4.40%. Seems that if bonds manage to beats stocks over the next 30 years it will have to be by stocks producing abysmal returns that stink even worse than the dinky yield on bonds.

Yeh, another few decades of bonds trumping stocks seems improbable but if that couldn't happen then we'd all be selling bonds to buy stocks. If inflation eventually does come charging back, stocks and nominal bonds are toast. The lowly TIPS could reign supreme. You just never know, do you?

[Karl]

If inflation eventually does come charging back, stocks and nominal bonds are toast. The lowly TIPS could reign supreme. You just never know, do you?

Stocks aren't necessarily toast in times of high inflation. Look at emerging markets where inflation rates have at times gone into the stratosphere and still their stock markets did fine. Being a claim on property, plant, equipment and corporate earnings -- all of which go up with inflation -- stocks are a long-term inflation hedge. Obviously, stocks still get knocked down significantly in the short-run by major unexpected spikes in inflation.

It seems generally agreed the reason stocks beat bonds by so much during the 20th century was due to unexpected inflation that killed bonds. Think of how badly bonds performed for the 50-year period leading up to 1981 when interest rates hit their peak -- bond returns were in the area of 3% per year. Then, as you noted, bonds went on to produce fantastic returns for the next 30 years where they even beat stocks.

I'm not sure I'd call TIPS lowly. They've been excellent performers for me as yields went from over 4% down to negative 1%. Now you can "safely" lose purchasing power backed by a guarantee from the US Treasury.

[Bob's not my name]

Whether stocks beat bonds or bonds beat stocks is irrelevant to the original question: whether there is an advantage to holding either in the Roth vs. in a traditional IRA. There isn't, if the estate tax issue is moot.

If the question is what to hold in Roth vs. taxable, that's a different question.

[LadyGeek]

I just edited some inappropriate remarks, as well as responses. See: Forum Policy

We expect this forum to be a place where people can feel comfortable asking questions and where debates and discussions are conducted in civil tones. Respect your debating opponents. Debates are about issues, not people. If you disagree with an idea, go ahead and marshal all your forces against it. But do not confuse ideas with the person posting them; at all times we must conduct ourselves in a respectful manner to other posters. Attacks on individuals, insults, name calling, trolling, baiting or other attempts to sow dissension are not acceptable. If you feel that someone has attacked you or otherwise violated the policies of this forum, do not respond in kind. Instead, contact a Moderator or Site Administrator by PM or by clicking the report button and ask them to review the problem posts.

[Karl]

My Roth IRA is 100% in Wellesley Income, a nice balance of stock exposure and bond stability. It will do a good job for your Mom (and you) whether she never touches the funds in her lifetime or beats all the odds and lives to 101 years old. Also, it's stock/bond allocation may be a nice averaging of "age in bonds" between you and your Mom.

While I've used Wellesley in the past and consider it a good fund overall, I'd personally prefer separate stock & bond funds. A major reason for this would be expenses. Wellesley Income Admiral has expenses of 0.18% while Admiral share of any bond fund are never more than 0.12% and stock index funds are 0.10% (or less) for US and 0.18% or less for international.

Yeah, I get real picky about expenses, having become used to rock bottom expenses at Vanguard.