Portfolio Opinions and Tax Efficiency

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towtruck
Posts: 2
Joined: Tue Nov 14, 2017 4:17 pm

Portfolio Opinions and Tax Efficiency

Post by towtruck » Tue Nov 14, 2017 4:22 pm

I am interested in getting your guys’ opinions on the current state of my portfolio, and particularly, any improvements that could be made to be more tax efficient. Obviously, there is limited room in the tax advantaged accounts, which I am maxing out, but are there any funds that should be switched from tax advantaged to taxable, and vice-versa?Additionally, any thoughts or opinions on my percentages and ways in which I should adjust? Ways to simplify or areas that are missing? I am young with a long term outlook (fine with an aggressive profile) and have good job security (military).

-Age: 28
-Status: Married, filing jointly
-No debt and saving approx. $6k/month
-I always max out my ROTH TSP/ROTH IRA first, then taxable.

Which brings me to another question. Until this year, I have had mostly tax free income due to being overseas, so using the ROTH IRA/TSP was a given. This year, due to getting married and not receiving tax free anymore, our joint taxable income is approximately $115k, putting us in the 25% tax bracket. I still maxed out the Roth TSP/IRA out of habit, but do you guys think it makes sense to switch over to the traditional TSP/IRA now that our taxable income is higher?


Roth IRA: 67k Total
VEMAX (Emerging Markets Index) - $17k
VTRIX (International Value) - $7k
VGSLX (REIT Index) – 20k
VWELX (Wellington) – 23k

TSP: 72k Total
C Fund (Common Stock (S&P)) – 44k
I Fund (International Stock Index) – 14k
S Fund (Small Cap Stock Index) – 14k

Taxable: 138k Total
VSIAX (Small Cap Value) – 16k
VTIAX (Total International Stock Index) – 42k
VTSAX (Total Stock Market Index) – 80k

*I also have about 10k in Apple stock and keep anywhere from 5-20k in an ‘emergency fund’ at any time (Savings account waiting to be invested).
*I also own two houses with two mortgages
-House 1: Value :$290k Mortgage: 175k (currently rented out and profitable)
-House 2: Value: 215k Mortgage: 197k (live in)

I try to abide by the following percentages (which I change a little now and then) simply by investing new amounts into areas that are low.

45% - Total Stock Market (VTSAX, TSP C fund)
22.5% - International (VTIAX, VTRIX, TSP I fund)
10% - Small Cap Value (VSIAX, TSP S fund)
10% - Emerging Markets (VEMAX)
7.5% - Wellington (VWELX)
5% - REIT (VGSIX)

Appreciate any advice, help, thoughts, or opinions!

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ruralavalon
Posts: 11668
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Location: Illinois

Re: Portfolio Opinions and Tax Efficiency

Post by ruralavalon » Tue Nov 14, 2017 6:57 pm

Welcome to the forum :) .
towtruck wrote:
Tue Nov 14, 2017 4:22 pm
. . . . I am young with a long term outlook (fine with an aggressive profile) and have good job security (military).

-Age: 28
-Status: Married, filing jointly
-No debt and saving approx. $6k/month
-I always max out my ROTH TSP/ROTH IRA first, then taxable.

Which brings me to another question. Until this year, I have had mostly tax free income due to being overseas, so using the ROTH IRA/TSP was a given. This year, due to getting married and not receiving tax free anymore, our joint taxable income is approximately $115k, putting us in the 25% tax bracket. I still maxed out the Roth TSP/IRA out of habit, but do you guys think it makes sense to switch over to the traditional TSP/IRA now that our taxable income is higher?
In the 25% bracket the question is often seen as a toss up, could go either way. Here are the general considerations. Wiki article, "Traditional vs Roth".
"Tax considerations:
* If your current marginal tax rate is 15% or less, prefer a Roth.
* If you expect to have higher marginal rates than your current marginal rate for most of your career, prefer a Roth.
* If you will have a traditional account or a pension large enough to meet your expected retirement expenses (and you expect to take that pension shortly after retiring), prefer a Roth.
* Otherwise, prefer a traditional account."

For most people traditional contributions to their work-based plan (401k, 403b 457, TSP, etc.) will probably be better. TFB blog post, "The case against Roth 401k". "I think for most people the majority, if not 100%, of the contribution should go to a Traditional 401(k)."

Will you receive a substantial pension? Is your plan to stay in the military until retirement? I think that this is what probably decides the traditional vs Roth question.

Ordinarily most people are likely better off making traditional contributions to their work-based plans. A pension changes that analysis, so that Roth contributions are likely better if you have a significant pension coming. TFB blog post, "Most TSP participants should switch to the Roth TSP".


towtruck wrote:
Tue Nov 14, 2017 4:22 pm
I am interested in getting your guys’ opinions on the current state of my portfolio, and particularly, any improvements that could be made to be more tax efficient. Obviously, there is limited room in the tax advantaged accounts, which I am maxing out, but are there any funds that should be switched from tax advantaged to taxable, and vice-versa? Additionally, any thoughts or opinions on my percentages and ways in which I should adjust? Ways to simplify or areas that are missing? . . . .
. . . . .
I try to abide by the following percentages (which I change a little now and then) simply by investing new amounts into areas that are low.

45% - Total Stock Market (VTSAX, TSP C fund)
22.5% - International (VTIAX, VTRIX, TSP I fund)
10% - Small Cap Value (VSIAX, TSP S fund)
10% - Emerging Markets (VEMAX)
7.5% - Wellington (VWELX)
5% - REIT (VGSIX)

Appreciate any advice, help, thoughts, or opinions!
The most striking thing is no bond allocation other than the 30% of the Vanguard Wellington Fund (VWELX), which makes your stock/bond mix about 98/02.

At age 28 I suggest about 20% in bonds. This is expected to substantially reduce volatility (risk), with only a relatively slight decrease in return. Graph, "An Efficient Frontier: the power of diversification". Please see the wiki articles Bogleheads® investment philosophy, part 3 "Never bear too much or too little risk", and "Asset allocation".

A good location for the bond allocation is a tax-advantaged account, preferably a tax-deferred account such as your TSP account. Wiki article, "Approximating total stock market". You could use either the F Fund, or the G Fund, or both for the bond allocation.

I suggest around 20 - 30% of stocks in international stocks. Vanguard paper (March 2012), "Considerations for investing in non-U.S. equities". Historically, allocating 20% of an equity portfolio to non-U.S. stocks would have captured about 84% of the maximum possible diversification benefit, and allocating 30% of an equity portfolio to non-U.S. stocks would have captured about 99% of the maximum possible diversification benefit (p. 6). You can find lots of debate here on international allocation, opinions rangeing all the way from 00% to 50% of stocks in international stocks. If you want more viewpoints on international stocks please try the Google search box (upper right, this page).

The I Fund is an EAFE index fund, is not not fully diversified, covers only stocks of larger companies, only in developed markets, except Canada. Vanguard Total Stock /index Fund Admiral Shares (VTIAX) ER 0.11% covers stocks of both larger and smaller companies, in both emerging and developed markets, including Canada. So you could eliminate that from the I Fund from the TSP and instead use more Vanguard Total Stock /index Fund Admiral Shares (VTIAX) ER 0.11% in the taxable account. This gives both better diversification, and frees up tax-advantaged space in your TSP account.

Asset allocation is a very personal decision. You must decide on an allocation that is comfortable for you based on your own ability, willingness and need to take risk.
Last edited by ruralavalon on Tue Nov 14, 2017 7:46 pm, edited 1 time in total.
"Everything should be as simple as it is, but not simpler." - Albert Einstein | Wiki article link:Getting Started

livesoft
Posts: 56519
Joined: Thu Mar 01, 2007 8:00 pm

Re: Portfolio Opinions and Tax Efficiency

Post by livesoft » Tue Nov 14, 2017 7:24 pm

I would recommend that over the long-term that you should not own VSIAX (Vanguard small-cap value) in taxable if you can avoid it. And it seems that you can avoid it easily.

Since the TSP I fund is similar to a tax-efficient international fund, I would suggest you exchange VSIAX in taxable into a tax-efficient international fund and then exchange the TSP I fund into a small-cap fund or a bond fund.

I think to get the benefit of small-cap value, that you have to buy shares of it when it has dropped and sell shares of it when it has gained. If SCV is in taxable, I found that I cannot sell it when I should due to tax-considerations. Thus, while I hold SCV in taxable, I also hold it in tax-advantage where I do all rebalancing in/out of SCV.
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bgf
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Joined: Fri Nov 10, 2017 9:35 am

Re: Portfolio Opinions and Tax Efficiency

Post by bgf » Tue Nov 14, 2017 7:28 pm

you make $115k pretax, with a mortgage, and you save $6k per month? wow, that is impressive.

overall, i like your allocation. I know the poster above said that you have maybe too little bond exposure, but you also have a rental property, which, so long as it remains rented and profitable, should provide consistent cashflow even in bear markets. also the equity of two houses will limit the volatility in your net worth, though of course it will do nothing for your portfolio volatility.

I do wonder why you have the Wellington fund? Seems redundant and a bit out of place with the rest of your portfolio.

towtruck
Posts: 2
Joined: Tue Nov 14, 2017 4:17 pm

Re: Portfolio Opinions and Tax Efficiency

Post by towtruck » Thu Nov 16, 2017 10:03 pm

I really appreciate the responses thus far…thank you guys for taking the time!

I agree, the Wellington fund may seem a little out of place. I have had it for a long time, and thus, have simply not gotten rid of it because it does have some bond exposure. However, I could probably increase my exposure to bonds through a much simpler method such as Vanguard’s bond index fund (which I’m assuming should still be placed in the Roth IRA).

”Since the TSP I fund is similar to a tax-efficient international fund, I would suggest you exchange VSIAX in taxable into a tax-efficient international fund and then exchange the TSP I fund into a small-cap fund or a bond fund.”

”The I Fund is an EAFE index fund, is not not fully diversified, covers only stocks of larger companies, only in developed markets, except Canada. Vanguard Total Stock /index Fund Admiral Shares (VTIAX) ER 0.11% covers stocks of both larger and smaller companies, in both emerging and developed markets, including Canada. So you could eliminate that from the I Fund from the TSP and instead use more Vanguard Total Stock /index Fund Admiral Shares (VTIAX) ER 0.11% in the taxable account. This gives both better diversification, and frees up tax-advantaged space in your TSP account.”

I’ve read some conflicting things regarding the tax efficiency of small cap value funds. But I suppose it would be better to keep the small cap value in my TSP if able, and move international index funds to the taxable account. This would also allow me to switch to VTIAX, as the above poster recommended for better diversification.

Pretty sure I have more questions, but it’s getting late and I would like to do some research before asking them. Thanks for the help and input, again.

livesoft
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Re: Portfolio Opinions and Tax Efficiency

Post by livesoft » Thu Nov 16, 2017 10:07 pm

It doesn't matter if small cap value is tax efficient or not for my statement to hold true. I wrote about the need to sell in order to rebalance out of it. I don't want to sell anything at a taxable gain in taxable until I am long retired.
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Katietsu
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Re: Portfolio Opinions and Tax Efficiency

Post by Katietsu » Thu Nov 16, 2017 10:41 pm

Put the bond allocation in the TSP not in the Roth. First, Roth should have the assets that are expected to have the most growth since you will never pay taxes on that growth. Second, you have the G fund in the TSP which is a wonderful option that makes the rest of us jealous.

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ruralavalon
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VXUS. Re: Portfolio Opinions and Tax Efficiency

Post by ruralavalon » Fri Nov 17, 2017 8:29 am

Asset alloocation.
towtruck wrote:
Tue Nov 14, 2017 4:22 pm
I try to abide by the following percentages (which I change a little now and then) simply by investing new amounts into areas that are low.

45% - Total Stock Market (VTSAX, TSP C fund)
22.5% - International (VTIAX, VTRIX, TSP I fund)
10% - Small Cap Value (VSIAX, TSP S fund)
10% - Emerging Markets (VEMAX)
7.5% - Wellington (VWELX)
5% - REIT
At age 28 I suggest about 20% in bonds. This is expected to substantially reduce volatility (risk), with only a relatively slight decrease in return. Graph, "An Efficient Frontier: the power of diversification". Please see the wiki articles Bogleheads® investment philosophy, part 3 "Never bear too much or too little risk", and "Asset allocation".

I suggest around 20 - 30% of stocks in international stocks. Vanguard paper (March 2012), "Considerations for investing in non-U.S. equities". Historically, allocating 20% of an equity portfolio to non-U.S. stocks would have captured about 84% of the maximum possible diversification benefit, and allocating 30% of an equity portfolio to non-U.S. stocks would have captured about 99% of the maximum possible diversification benefit (p. 6). You can find lots of debate here on international allocation, opinions rangeing all the way from 00% to 50% of stocks in international stocks. If you want more viewpoints on international stocks please try the Google search box (upper right, this page).

That's a little less international than you had in mind.

In my opinion a 05% allocation to a REIT fund is within the range of what is reasonable.

For a small-cap value tilt I suggest using a small-cap value index fund at around 25-30% of domestic stocks. Rick Ferri, etf.com, "To Tilt Or Not To Tilt?". If domestic stocks = 60% of portfolio, then small-cap value = about 15% of portfolio.

That's a little more small-cap value than you had in mind.

That all works out to about 20% bonds, 20% international stocks, 05% REIT, 15% small-cap value, and 40% other domestic stocks. Asset allocation is a very personal decision. You must decide on an allocation that is comfortable for you based on your own ability, willingness and need to take risk.


Fund selection and placement.
A good location for the bond allocation is a tax-advantaged account, preferably a tax-deferred account such as your TSP account. "Tax-efficient fund placement". You could use either the F Fund, or the G Fund, or both for the bond allocation.

The I Fund is an EAFE index fund, is not not fully diversified, covers only stocks of larger companies, only in developed markets, except Canada. Vanguard Total Stock /index Fund Admiral Shares (VTIAX) ER 0.11% covers stocks of both larger and smaller companies, in both emerging and developed markets, including Canada. So you could eliminate the I Fund from the TSP. This frees up tax-advantaged space in your TSP account, which allows space there for a bond allocation.

The other 06% of the TSP space can be used for the C Fund (a S&P 500 Index fund), which is the functional equivalent of a total stock market index fund. "In a 401(k) plan with limited choices one might very well opt for an S&P 500 index fund to serve as the domestic stock component of a three-fund portfolio." Wiki article, Three-fund portfolio, "Other considerations". An S&P 500 index fund covers 81% of the U.S. stock market, and in the 25 years since the creation of the first total stock market fund the performance of the two types of funds has been almost identical. Morningstar “growth of $10k” graph, VFINX vs VTSMX.

In the taxable account I suggest using Vanguard Total Stock Market Index Fund Admiral Shares (VTSAX) ER 0.04% and Vanguard Total International Stock Index Fund Admiral Shares (VTIAX) ER 0.11%. Both are very tax-efficient. Wiki article "Tax-efficient fund placement". Those funds are also well suited to any type of account. Both are very diversified with very low expense ratios.

Moderator triceratops has developed a very informative spreadsheet on tax efficiency, found here: ”2016 relative tax efficiency”. Vanguard Small-cap Value ETF is VBR on the spreadsheet, Vanguard mutual funds will have the same tax efficiency as their ETF share classes. Tax efficiency will vary with the tax bracket used.

It appears to me that the small-cap value ETF (VBR) is fairly tax-efficient. (I am not a tax expert, I don't even prepare my own tax returns.) For comparison on the spreadsheet the total stock market ETF is VTI, and the total international ETF is VXUS.

In arranging the example portfolio I left the taxable account exactly the same, so that no income tax liability would be created by some exchange in that account.

In creating the example I couldn't find space to include both international value and additional emerging markets. I included international value, because emerging markets are already included in the total international index fund.




Example portfolio.
Here is an example portfolio that you could consider. This attempts to conform to your desired asset allocation, but does add a bond allocation. Current total portfolio size = $277k. Saving "approx. 6k/month", so new annual contributions = about $72k. The asset allocation is 20% bonds, 20% international stocks, 05% REIT, 15% small-cap value, and 40% other domestic stocks. The percentages given are percentages of the total portfolio, not of a given account. The suggestion is to switch both the existing balances and the new contributions to the funds indicated. All percentages and dollar amounts are rounded off, so may not add up exactly.

Taxable account @ Vanguard (50% of total; $138k; adds $42k/yr = 58% of new annual contributions)
06%, $16k, Vanguard Small-cap Value Index Fund Admiral Shares (VSIAX) ER 0.07%
15%, $42k, Vanguard Total International Stock Index Fund Admiral Shares (VTIAX) ER 0.11%
29%, $80k, Vanguard Total Stock Market Index Fund Admiral Shares (VTSAX) ER 0.04%

TSP (26% of total; $72k; adds $18.5k/yr = 26% of new annual contributions)
06%, $17k, C Fund (a S&P 500 Index fund)
20%, $55k, F Fund (a Bloomberg Barclays U.S. Aggregate Bond Index fund)

Roth IRA @ Vanguard (24% of total; $67k; adds $5.5k/yr = 08% of new annual contributions)
05%, $14k, Vanguard Total Stock Market Index Fund Admiral Shares (VTSAX)e ER 0.04%
09%, $25k, Vanguard Small-cap Value Index Fund Admiral Shares (VSIAX) ER 0.07%
05%, $14k, Vanguard International Value Fund (VTRIX) ER 0.43%
05%, $14k, Vanguard REIT Index Fund Admiral Shares (VGSLX) 0.12%


Rebalancing.
Because the funds will grow at different and unpredictable rates, it may be necessary every year or two to rebalance in order to maintain the desired asset allocation. Wiki article, "Rebalancing".

Avoid exchanging between funds in the taxable account, which can create income tax liability.

. . . . .

I suggest that you read one or two books on general investing. Wiki article, "Books: recommendations and reviews". When I first stated managing my own investments, I found this tutorial very helpful in learning investing terminology/jargon and some of the investing basics. Morningstar, "Investing Classroom". Also take a look at the Boglehead’s wiki, the "getting started" link I give below.

If you have any questions just ask.

I hope that this helps.
"Everything should be as simple as it is, but not simpler." - Albert Einstein | Wiki article link:Getting Started

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