403(b) vs Taxable Account

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Pilgrim211
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403(b) vs Taxable Account

Post by Pilgrim211 » Sun Apr 02, 2017 4:50 pm

Hi there,

I’m new to the forum, and would like to ask a “what-if” question. I have seen that you like a good snapshot of current state before answering so here goes.

A little background. Although I’ve had few thousand invested in a Roth IRA and in a traditional IRA, I’ve not contributed anything for the past several years since a 403b is available. I’ve prioritized contributions to a work plan to get the employer match, and it seems I’ve done okay there. (Reports show I’ve averaged around 11% return in the work plan over the past 5-7 years.) That’s been the sum total of my investments outside of my home. The picture changed last year. Although there are many options, I want to move at a reasonable pace for any adjustments to the picture below. I would still consider myself an investment novice.

Emergency funds: Three to four months of expenses
Debt: None
Tax Filing Status: Single
Tax Rate: 15% Federal, 4.25% State
State of Residence: Michigan
Age: 55 (still working)
Desired Asset allocation (Stocks/Bonds): Unsure but leaning toward 75/25 or 80/20 for now
Desired International allocation: 15-20%

Questions:

My questions initially are tied to the 403b and Taxable accounts.
1. If additional funds become available (outside of wages), would you (a) increase the emergency fund, (b) roll it into the taxable account, or (c) use it to free up additional contributions into the 403b, replacing some of the “earned income” from work with the outside unearned income so that additional wages could be funneled into a tax-deferred account? Why would you choose one of these options over another? (I’m already exceeding the workplace 403b employer match and maxing out my Roth.)
2. Are there funds in the 403b that you’d either use or avoid? Would you stick with several of the listed funds or recommend either a target-date fund or a self-directed brokerage account within the 403b?

Current Investments:

Taxable: 51% of total portfolio
Not ready for major edits here, other than transferring my Roth contribution regularly. I’m not yet clear on how much will be used for retirement vs other intermediate goals.

Roth IRA: 8% of total portfolio
No changes expected for now. Invested in mutual funds, planning to max out current and upcoming Roth contributions until retirement. Will consider rollovers and conversions from the 403b when that’s possible without penalty.

Traditional IRA (inherited): 28% of total portfolio
Required to take the annual RMD, will likely try to leave that distribution invested in the taxable account. Since the amount depends on the market and the ending balance of the prior year, this may become a factor for marginal tax rate. (5% cash, 7% bonds, 24% int’l stocks (20% developed, 4% emerging),61% domestic stocks (45% large-cap, 16% small/mid cap) and 3% REIT/other).

403b : 13% of total portfolio (14% bond/mm, 55% large cap, 23% small/med cap and 8% int’l)
To gain maximum company match I need to contribute at least 6%.

Total of all accounts is in the low six-figure range.

Contributions and Distributions

Roth IRA – full $6500 funded from Taxable account annually, see below.
Traditional IRA – required to take the RMD annually due to inheritance
403b – 15% of my pay, plus employer match on first 6%; To gain maximum company match I need to contribute at least 6%.

My current plan is to transfer $6500 from the taxable brokerage account each year to fully max out a Roth contribution while I’m working. (That much seems like a no-brainer to me.) I have increased my contributions from 6% to 15%, but may increase them further.

Available funds for 403(b)

• Vanguard Treasury Money Market Inv - VUSXX (0.09)
• Lincoln Stable Value Separate Account ?
• Metropolitan West Total Return Bond M - MWTRX (0.67)
• Vanguard Total Bond Market Idx InstlPls – VBMPX (0.04)
• Templeton Global Bond Adv – TGBAX (0.68)
• Diamond Hill Large Cap A - DHLAX (0.99)
• Ave Maria Rising Dividend - AVEDX (0.92)
• Vanguard Institutional Index Instl Pl – VIIIX (0.02)
• Loomis Sayles Growth A - LGRRX (0.92)
• Vanguard Mid Cap Index Instl Plus - VMCPX (0.05)
• Columbia Small Cap Value Fund II Z – NSVAX (1.02)
• Vanguard Small Cap Index I - VSCIX (0.07)
• Franklin Small Cap Growth Adv - FSSAX (0.87)
• American Funds EuroPacific Gr R6 RERGX (0.50)
• Vanguard Total Intl Stock Index I - VTSNX (0.09)
(Vanguard Institutional Target funds and Personal Choice brokerage accounts are also available, but I don’t think I’m interested at this time.)

So to summarize, the two main questions are (1) best use for any additional unearned income and (2) recommendations on the 403b choices above. Thanks in advance!

krow36
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Location: WA

Re: 403(b) vs Taxable Account

Post by krow36 » Sun Apr 02, 2017 6:51 pm

Pilgrim211, welcome to the forum.
1. If additional funds become available (outside of wages), would you (a) increase the emergency fund, (b) roll it into the taxable account, or (c) use it to free up additional contributions into the 403b, replacing some of the “earned income” from work with the outside unearned income so that additional wages could be funneled into a tax-deferred account? Why would you choose one of these options over another? (I’m already exceeding the workplace 403b employer match and maxing out my Roth.)
I would try to max out the 403b by using funds from your taxable account.
2. Are there funds in the 403b that you’d either use or avoid? Would you stick with several of the listed funds or recommend either a target-date fund or a self-directed brokerage account within the 403b?
I would continue to use the Vanguard funds you are using: Institutional Index (S&P500), Mid and Small Cap Indexes, TISM and TBM. You have a great 403b plan!

radiowave
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Re: 403(b) vs Taxable Account

Post by radiowave » Sun Apr 02, 2017 6:56 pm

Vanguard Total Bond Market Idx InstlPls – VBMPX (0.04) is a good choice in the 403b as well. You can adjust your asset allocation by adding more stock mutual funds in either the taxable or Roth IRA.
Bogleheads Wiki: https://www.bogleheads.org/wiki/Main_Page

Pilgrim211
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Re: 403(b) vs Taxable Account

Post by Pilgrim211 » Sun Apr 02, 2017 7:05 pm

Thanks for your quick response, krow36. I have a slight hesitation with using the taxable account to facilitate maxing 403(b), and am trying to sort it out in my mind. Am I, in effect, setting myself up to pay extra income tax since the Taxable has the taxes already paid for most of it (other than 2017 gains or dividends which will be largely at a 0% since I'm in the 15% bracket), but when 403(b) is distributed it will incur taxes? Or do I just say it's technically okay since I'd reduced payroll taxes for whatever went into the 403(b)? Perhaps it's a silly question but I haven't been able to sort this out mentally.

krow36
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Location: WA

Re: 403(b) vs Taxable Account

Post by krow36 » Sun Apr 02, 2017 11:06 pm

Have you read over the Wiki on tax-efficient fund placement? It’s worth some serious study.
https://www.bogleheads.org/wiki/Tax-eff ... _placement
Since you don’t want to discuss the content of your taxable account, it’s hard to know if it would be a good idea to sell some of it to supplement your living expenses so that you could max out your 403b account. In general, I think it’s a good idea, but I’ll leave it to others to prove it to you with hard numbers.

In general, it’s desirable to postpone paying a tax. That’s what you are doing when you contribute to your 403b. Your salary will be taxed as you earn it, or later when you take a distribution from your 403b. If you have to sell in taxable and pay cap gains, that’s not ideal, but if you have headroom in the 15% tax bracket, you won’t pay cap gains tax, as you say. The more you contribute to the 403b, the more headroom you will have. You could view your RMDs from the inherited tIRA as a gift that allows you to max out your 403b. At 51%, I think you have more in taxable than is ideal.

You are possibly a good candidate to retire, live off your taxable account and convert some of your 403b account every year into a Roth IRA at a 0% and 10% tax rate. I guess that may depend on how much taxable income your taxable account is kicking off every year?

Pilgrim211
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Re: 403(b) vs Taxable Account

Post by Pilgrim211 » Mon Apr 03, 2017 7:19 pm

Thanks for your responses. You've given me some good things to think about.

Krow36 commented, "... it’s hard to know if it would be a good idea to sell some of it to supplement your living expenses so that you could max out your 403b account. In general, I think it’s a good idea, but I’ll leave it to others to prove it to you with hard numbers." Actually I had thought about this several months ago and even asked an adviser. However, the recommendation at the time was to take things slow since my experience had only been with the Roth and my 403b, and I'd kept that simple. I'm still considering that, but somehow hesitate on going all-in until I get a better understanding of taxes both "now" and "then" (retirement). One concern seems just a little silly -- that I might bump into a higher tax bracket all of a sudden, and incur the difference that would make on any investment income.

Using the RMD to allow tax-advantaged contributions was mentioned. In essence, RMD's will help toward the Roth for now. The rest will likely come from the taxable account. For now I doubt retirement is a wise move, since that would limit new contributions to the Roth and would eliminate the option to bump up 403b contributions. Maybe in a few years?

Is there any guideline as to ratios for taxable/403b/Roth? I know Roth is limited to $6500 each year at my age, as long as I'm working, so it'll be the smallest portion up till retirement. The taxable vs 403b is up in the air as to ideal mix, even though it might take several years to get to that ideal.

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CyclingDuo
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Re: 403(b) vs Taxable Account

Post by CyclingDuo » Mon Apr 03, 2017 9:28 pm

Pilgrim211 wrote: Traditional IRA (inherited): 28% of total portfolio
Required to take the annual RMD, will likely try to leave that distribution invested in the taxable account. Since the amount depends on the market and the ending balance of the prior year, this may become a factor for marginal tax rate. (5% cash, 7% bonds, 24% int’l stocks (20% developed, 4% emerging),61% domestic stocks (45% large-cap, 16% small/mid cap) and 3% REIT/other).

403b : 13% of total portfolio (14% bond/mm, 55% large cap, 23% small/med cap and 8% int’l)
To gain maximum company match I need to contribute at least 6%.
At the very least, I would suggest that you up your 403b contributions by the same amount you are having to take RMD's (which are taxed as ordinary income) from the IRA BDA (inherited stretch IRA). By upping your 403b to that amount, your pre-tax contributions would lower your take home salary and the RMD's would make up for that lower take home pay. That would, at the very least, basically transfer the money from one tax deferred vehicle to another without any tax implications so you are able to "stretch" those investment dollars longer. It's a nice strategy to use for inherited IRA's and or annuities to "stretch" them even longer.

At age 55, you are able to contribute up to $24K into your 403b which should help take care of at least a portion of the RMD, if not all of it. The funds look great with the fees in your 403b plan, but you didn't mention what the administrative fees over and above the funds are. One of ours is .17, and the other ranges from .18 - .20.

krow36
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Location: WA

Re: 403(b) vs Taxable Account

Post by krow36 » Mon Apr 03, 2017 10:04 pm

I wonder if you aren’t overthinking this. We don’t know what the future holds as far as tax rates, IRS regulations or the markets. It would seem to be ideal to have many different sources of retirement funds: a taxable account, a Roth IRA account and a traditional IRA (or 403b). Add in the increasingly rare pension and Social Security, and in your case an inherited tIRA, your sources of retirement income will be very diversified. Are you expecting a pension and/or SS? I think you’re balance is low on the 403b side and high on the taxable account side. And it’s an easy fix. Maximizing tax-deferred accounts is SOP for those planning to retire early.

Pilgrim211
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Re: 403(b) vs Taxable Account

Post by Pilgrim211 » Tue Apr 04, 2017 5:37 am

krow36 wrote:I wonder if you aren’t overthinking this. We don’t know what the future holds as far as tax rates, IRS regulations or the markets. It would seem to be ideal to have many different sources of retirement funds: a taxable account, a Roth IRA account and a traditional IRA (or 403b). Add in the increasingly rare pension and Social Security, and in your case an inherited tIRA, your sources of retirement income will be very diversified. Are you expecting a pension and/or SS? I think you’re balance is low on the 403b side and high on the taxable account side. And it’s an easy fix. Maximizing tax-deferred accounts is SOP for those planning to retire early.
Since I'm relatively new, I am trying to figure out some of the acronyms used here, and am not certain what "SOP for those planning to retire early" means?

To answer your question, krow36, diversified streams of income simply makes sense to me where possible, and yes, SS is in the picture. A very small pension is, as well, though it's small enough to be almost inconsequential due to a move by an employer from defined-benefit to a defined-contribution plan not too long after I started there.
CyclingDuo wrote: At the very least, I would suggest that you up your 403b contributions by the same amount you are having to take RMD's (which are taxed as ordinary income) from the IRA BDA (inherited stretch IRA). By upping your 403b to that amount, your pre-tax contributions would lower your take home salary and the RMD's would make up for that lower take home pay. That would, at the very least, basically transfer the money from one tax deferred vehicle to another without any tax implications so you are able to "stretch" those investment dollars longer. It's a nice strategy to use for inherited IRA's and or annuities to "stretch" them even longer.

At age 55, you are able to contribute up to $24K into your 403b which should help take care of at least a portion of the RMD, if not all of it. The funds look great with the fees in your 403b plan, but you didn't mention what the administrative fees over and above the funds are. One of ours is .17, and the other ranges from .18 - .20.
Using the RMD to back-fill for 403b contributions makes sense to me, though it is small compared to the 24K max at my age. (I don't believe maxing it out is even an option since the % allowed for contributions would not quite match that 24K target. Plus there are other pre and post tax deductions to consider.) I guess this question all started because I am looking at the 403b for now: where to adjust, whether to save aggressively there while using the Taxable to supplement living expenses.

You asked about 403b fees. From what I can tell, the fees in my original post include all per-fund expenses. There's also a flat-fee annual expense of $41 as long as I use those accounts. (A self-directed brokerage account would add other fees.) Looking at the past two years, the Service Plan Credit has more than offset that $41 fee. From the summary plan description, "All of the revenue (e.g., 12b-1 fees, administrative fees) that [the plan] or its affiliates receive from the plan's investment options is credited back to your account on a monthly basis as a Plan Service Credit."

Given the choices, I am curious, would anyone here use funds other than Vanguard within the 403b choices? I know the expense ratios are a bit higher yet it seems the Plan Service credits help offset those fees in part. Would they be considered reasonable options if over the past three to five years, their return exceeds the index by more than the ER?

I want to be sure which way to go before I increase withholding and rebalance any current 403b holdings later this month. Thanks again for your input.

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CyclingDuo
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Re: 403(b) vs Taxable Account

Post by CyclingDuo » Tue Apr 04, 2017 6:35 am

Pilgrim211 wrote:Given the choices, I am curious, would anyone here use funds other than Vanguard within the 403b choices? I know the expense ratios are a bit higher yet it seems the Plan Service credits help offset those fees in part. Would they be considered reasonable options if over the past three to five years, their return exceeds the index by more than the ER?

I want to be sure which way to go before I increase withholding and rebalance any current 403b holdings later this month. Thanks again for your input.
We would stick with the Vanguard funds within your 403b. Especially Total Bond, Institutional, and Total International. You could add Small Cap and MId Cap of Vanguard to equal TSM, but it's not a must.

Available funds for 403(b)

• Vanguard Treasury Money Market Inv - VUSXX (0.09)
• Lincoln Stable Value Separate Account ?
• Metropolitan West Total Return Bond M - MWTRX (0.67)
Vanguard Total Bond Market Idx InstlPls – VBMPX (0.04)
• Templeton Global Bond Adv – TGBAX (0.68)
• Diamond Hill Large Cap A - DHLAX (0.99)
• Ave Maria Rising Dividend - AVEDX (0.92)
Vanguard Institutional Index Instl Pl – VIIIX (0.02)
• Loomis Sayles Growth A - LGRRX (0.92)
Vanguard Mid Cap Index Instl Plus - VMCPX (0.05)
• Columbia Small Cap Value Fund II Z – NSVAX (1.02)
Vanguard Small Cap Index I - VSCIX (0.07)
• Franklin Small Cap Growth Adv - FSSAX (0.87)
• American Funds EuroPacific Gr R6 RERGX (0.50)
Vanguard Total Intl Stock Index I - VTSNX (0.09)
(Vanguard Institutional Target funds and Personal Choice brokerage accounts are also available, but I don’t think I’m interested at this time.)

Pilgrim211
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Re: 403(b) vs Taxable Account

Post by Pilgrim211 » Sat Feb 10, 2018 11:22 am

The market roller coaster these past few days seems a fairly new thing for me, though I realize it's far more normal than the past year and a half. I'd never really paid much attention when all investments were in workplace retirement accounts with retirement on what felt like a distant horizon. I have heard "Stay the course," and I think that's my desire, yet would like to be sure it's a reasonable course given the return of volatility and the changes to tax code for 2018. I've posted here since it already gives background easily.

I'm close to an 80/20 AA overall, 20% international. I've planned to withdraw several thousand for living expenses from the taxable account in 2018 to allow greater pre-tax 403(b) contributions through work than the amount my budget normally would allow, but with the current market I wonder if I should press Pause. Thoughts?

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CyclingDuo
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Re: 403(b) vs Taxable Account

Post by CyclingDuo » Sat Feb 10, 2018 12:19 pm

Pilgrim211 wrote:
Sat Feb 10, 2018 11:22 am
The market roller coaster these past few days seems a fairly new thing for me, though I realize it's far more normal than the past year and a half. I'd never really paid much attention when all investments were in workplace retirement accounts with retirement on what felt like a distant horizon. I have heard "Stay the course," and I think that's my desire, yet would like to be sure it's a reasonable course given the return of volatility and the changes to tax code for 2018. I've posted here since it already gives background easily.

I'm close to an 80/20 AA overall, 20% international. I've planned to withdraw several thousand for living expenses from the taxable account in 2018 to allow greater pre-tax 403(b) contributions through work than the amount my budget normally would allow, but with the current market I wonder if I should press Pause. Thoughts?
Corrections are all part of the journey. Gut wrenching at times when they happen. The current one was due simply based on how often they normally occur, valuations, sentiment, and how the market works. You can study what has happened in the past here:

https://www.yardeni.com/pub/sp500corrbear.pdf

Image

We've lived survived through the late 80's until now, the entire time setting aside our monthly contributions through thick and thin of the business cycle, bear markets, dot-com bust, financial crisis, etc... .

Nobody knows when this correction will end, or how and when it will find solid footing, or what duration it will take to return to previous levels. There's a good chance 1 - 4 months from now we will have moved out of the current trend. To answer your question, if you DCA into the 403b on a monthly basis, and DCA out of the taxable that things will net-net work out just fine. We are dealing with the RMD's from our inherited IRA's in such a manner. We can't reinvest the dividends in an inherited IRA, so we let the dividends build up in cash within the IRA, and withdraw the RMD when needed. Currently have enough cash in both inherited IRA's to move over this year's RMD amount (based on December 31st, 2017 balance) whenever needed without having to sell any of the fund or stock shares within the IRA's.

Are you planning on monthly, quarterly, or semi-annual RMD distributions to make up for the salary replacement you have going into your 403b? Either way, the net-net should work out fine as some will be sold at lower and some at higher prices, as well as some invested at lower and some at higher prices.

Pilgrim211
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Re: 403(b) vs Taxable Account

Post by Pilgrim211 » Sat Feb 10, 2018 1:20 pm

CyclingDuo,

At this point the RMD from Inherited IRA is small enough it partially funds my Roth IRA, so I took that in January, and fully funded the Roth. (I'd like to gain full advantage of any time in the Roth possible. The future is hard to predict, and I felt like I was behind.) Since it seems there are advantages in having multiple streams in retirement, yet taxable was likely overweight at this stage, I'd moved toward the salary-replacement through taxable in order to fund part of the 403(b). It's a way to shift some funds into a tax-advantaged space for the future.

So if I'm hearing you right, you're saying DCA works on the withdrawal as well as contribution side? I guess that's where I'm nervous, I'd always heard "don't sell low." Yet to continue the more aggressive pace with workplace contributions, modest withdrawals are eventually necessary somehow.

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CyclingDuo
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Re: 403(b) vs Taxable Account

Post by CyclingDuo » Sat Feb 10, 2018 7:03 pm

Pilgrim211 wrote:
Sat Feb 10, 2018 1:20 pm
CyclingDuo,

At this point the RMD from Inherited IRA is small enough it partially funds my Roth IRA, so I took that in January, and fully funded the Roth. (I'd like to gain full advantage of any time in the Roth possible. The future is hard to predict, and I felt like I was behind.) Since it seems there are advantages in having multiple streams in retirement, yet taxable was likely overweight at this stage, I'd moved toward the salary-replacement through taxable in order to fund part of the 403(b). It's a way to shift some funds into a tax-advantaged space for the future.

So if I'm hearing you right, you're saying DCA works on the withdrawal as well as contribution side? I guess that's where I'm nervous, I'd always heard "don't sell low." Yet to continue the more aggressive pace with workplace contributions, modest withdrawals are eventually necessary somehow.
You are basically transferring an asset from taxable to tax deferred, minus the capital gains incurred. The 403b salary reductions lowers your income, and the capital gains on selling the taxable as salary replacement - depending on your salary and tax rate - should be lower than your income tax rate for your salary. So yes, the DCA of selling one and immediately buying the other means you are selling/buying at the same price in such a transfer.

Example, in our case, our new tax rate for 2018 is 22% but our cap gains remain 15%. However, we are super saving this year and deferring salary to fund two fully maxed 403b's, one fully maxed out 457b, and a mandatory pension - so our cap gains will be 0% in 2018 for taxable if we were doing what you were doing, and should be able to drop to the 12% rate thanks to so much pre-tax going to retirement plans.

What is it working out for you in terms of cap gains?

Pilgrim211
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Re: 403(b) vs Taxable Account

Post by Pilgrim211 » Sat Feb 10, 2018 11:05 pm

I expect my capital gains rate to remain at 0% for 2018, and quite likely for the next several years if I continue this path through at least 59 1/2. At that point I will need to decide whether it's worth it to take any in-service distributions in order to move 403b funds into IRA (either traditional or Roth). That could change the picture on capital gain rates, yet I don't have to make that decision yet.

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