Confused about simplicity vs tax efficiency

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Topic Author
Pehealth
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Joined: Wed Mar 30, 2016 9:34 pm

Confused about simplicity vs tax efficiency

Post by Pehealth » Wed May 15, 2019 7:47 pm

I have about 600,000 in taxable. I have been very happy with the simplicity and asset allocation of the Life-strategy fund. I have a combo of growth and moderate growth funds. I don’t mind paying a little more in expenses and taxes. However, I will soon gave about 200,000 more to invest so I find myself wondering how much money were talking about in terms of tax and efficiency. Are we talking hundreds per year or thousands per year when I withdrawal 4% during retirement ?

Another way to word it, is this no big deal or am I doing something dumb ? I just don’t know what kind of difference we are talking about in taxes?

When I try to Figure out how to change my Roth, 403b, and taxable to put all the bonds tax advantaged funds, I get a headache doing the math of splitting the asset allocation and desired international percentage.

Aren’t I still better than most of the population by maxing my retirement accounts and having low cost funds. I will retire with about 2 million and a teacher’s pension and withdrawal a max of 4 % per year ( less in bad market years).

Any Bogleheads out there give me approval on staying with Lifestrategy?

mhalley
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Re: Confused about simplicity vs tax efficiency

Post by mhalley » Wed May 15, 2019 8:20 pm

The main thing you will miss out on is the opportunity to tax loss harvest. I think it is worth the hassle to have individual funds, but if you don’t want to be bothered your ls funds should be fine as long as you are not in say the 28% tax bracket.
Kitces has some good articles on tlh here that you might find useful. Also, how much cap gains tax would you have to pay to change funds now?
https://www.kitces.com/blog/is-capital- ... vervalued/
https://www.kitces.com/blog/evaluating- ... arvesting/
Here is what wci says about investing the easy way
. The truth is that investment management is probably the least important aspect of your financial success and certainly the easiest to automate. Maybe it’s okay to quit trying to optimize it (especially since nobody really knows the optimal asset allocation a priori) and just get something reasonable done. You can certainly save yourself a lot of hassle and advisory fees that would help make up for any under performance issues.
Last edited by mhalley on Wed May 15, 2019 8:29 pm, edited 1 time in total.

Mike Scott
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Re: Confused about simplicity vs tax efficiency

Post by Mike Scott » Wed May 15, 2019 8:27 pm

You will pay more in fees and taxes every year but you have to decide if the cost is worth it to you. You will need to give more information on your holdings and tax bracket etc if you want help figuring it out.

Topic Author
Pehealth
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Re: Confused about simplicity vs tax efficiency

Post by Pehealth » Wed May 15, 2019 9:19 pm

Thank you for the reply. So if I put the windfall in Total World Stock Market Index Fund In taxable, that will give me the ability to tax lost harvest (with my accountant )with bonds funds that are in my Roth and 403b? Right now 403b and Roth are in a Target Retirement Fund so I would also need change those ongoing contributions to the Total Bond fund?

Mike Scott
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Re: Confused about simplicity vs tax efficiency

Post by Mike Scott » Thu May 16, 2019 6:55 am

If you want more specific comments check out this link...
viewtopic.php?t=6212

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TheTimeLord
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Re: Confused about simplicity vs tax efficiency

Post by TheTimeLord » Thu May 16, 2019 7:01 am

Pehealth wrote:
Wed May 15, 2019 7:47 pm
Any Bogleheads out there give me approval on staying with Lifestrategy?
To me Lifestrategy funds are convenient not simple. I see having everything bundled together in one fund as complicating one's ability to do certain things.
IMHO, Investing should be about living the life you want, not avoiding the life you fear. | Run, You Clever Boy! [9085]

lostdog
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Re: Confused about simplicity vs tax efficiency

Post by lostdog » Thu May 16, 2019 7:18 am

If you really want to tax loss harvest AND have simplicity, you can go with total stock and total international in taxable. Stick with world market cap allocation when you contribute. The allocation will float with world market cap AA so you don't have to rebalance to a set allocation.

If you don't care about tax loss harvesting and value ultimate simplicity then just go with Total World VT/ VTWAX.

If you want a bond fund in taxable, based on your tax bracket it would be a municiple bond or a total bond fund.
Last edited by lostdog on Thu May 16, 2019 7:27 am, edited 2 times in total.
I don't invest looking in the rear view mirror and I know absolutely nothing about the future. I invest in Vanguard Total World Stock Index.

stan1
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Re: Confused about simplicity vs tax efficiency

Post by stan1 » Thu May 16, 2019 7:20 am

Simple is a relative term that has to be compared to alternatives. One very simple thing to do would be not to have a taxable account and only invest in tax advantaged accounts. That's an example of a case where simplicity may not be desirable. Taxable accounts add complexity. One can simplify investing in a taxable account if one chooses never to tax loss harvest. That may be a fair trade off to make as tax loss harvesting won't make a major difference in your wealth.

Things would be simpler if the federal government had not chosen to incentivize some types of dividend income (qualified dividends) and capital gains (long term). Federal and state government have also incentivized purchase of municipal bonds by making them tax free (fully at the federal level and tax free at the state level for the state of issue). The powers that be have put in the tax breaks and its your choice whether you want to make your portfolio more complex in order to take advantage of them. If simplicity is your only priority without regard to taxation your answer might be "no". Simplicity might have a cost.

Some people like to look for ways to reduce taxes and are fine with filling out an extra form or two every year to save a few hundreds or thousands of dollars. Other people don't want to bother with tracking down information to give a tax preparer.

Given this discussion I think a total market index funds like Total Stock Market or Total World Stock Market is simple enough. Bonds go in tax deferred or if really want them in taxable for some reason I use a state municipal bond fund.

MotoTrojan
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Re: Confused about simplicity vs tax efficiency

Post by MotoTrojan » Thu May 16, 2019 7:26 am

While I usually push for tax-efficiency, you actually do sound like someone that would be fine staying where you are at, especially since you are already at-least 3/4's locked in in taxable already with the $600K it sounds like.

cas
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Re: Confused about simplicity vs tax efficiency

Post by cas » Thu May 16, 2019 7:56 am

Pehealth wrote:
Wed May 15, 2019 7:47 pm
I have about 600,000 in taxable. I have been very happy with the simplicity and asset allocation of the Life-strategy fund. I have a combo of growth and moderate growth funds. I don’t mind paying a little more in expenses and taxes. However, I will soon gave about 200,000 more to invest so I find myself wondering how much money were talking about in terms of tax and efficiency. Are we talking hundreds per year or thousands per year when I withdrawal 4% during retirement ?

Another way to word it, is this no big deal or am I doing something dumb ? I just don’t know what kind of difference we are talking about in taxes?
I manage the assets (trustee of revocable trusts) and do the taxes for my parents, who are a couple of decades into retirement.

At this point in their retirement, tax loss harvesting is a complete non-issue. Most of their assets have cost basis from the early '90s or before, and unless something really economically horrendous happens, the days for tax-loss harvesting any of that are long past.

The biggest issue is that the parent who managed the portfolios developed enough age-related cognitive impairment that they needed their child to step in and take over management. If they didn't have me, then the simplicity of an all-in-one fund probably would likely have been worth a lot and avoided a lot of fees to assorted professionals and a lot of stress on the still-sharp spouse, who would have needed to take over unfamiliar financial tasks.

Since they do have me ... the biggest advantages I see (at that stage in retirement, in their particular income-and-tax circumstances) to a less simple, but more tax efficient taxable portfolio are:

- being able to decide whether taxable bonds or tax-exempt municipal bonds are more appropriate for their tax situation in their taxable account. (In their case, they are old enough that most of their accumulation occurred before IRAs or 401ks were widely available, so there isn't much tax-deferred space to use for bonds.)

- being able to keep an eye on the IRMAA thresholds (for Medicare premiums) and not have an unexpected capital gains distribution suddenly put them over an IRMAA cliff threshold (leading to a couple-thousand dollar jump in annual Medicare premiums). (I took a peek at the Vanguard Lifestrategy distributions data on Morningstar, and it looks like they generally have minimal capital gains distributions ... but last year was out outlier and the CGD suddenly jumped way up. I didn't do the research necessary to figure out why. Main point it is that unexpected capital gain distributions are possible with all-in-one funds. Look on your 1099-DIV from Vanguard to find out what yours were last year.)

- For people with an income below the level where they need to keep an eye on IRMAA thresholds, a similar consideration might be the need to keep an eye on the Social Security taxation "hump" - where unexpected capital gains distributions might end up highly taxed.

All of the above is highly dependent on individual circumstances, though.

megabad
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Re: Confused about simplicity vs tax efficiency

Post by megabad » Thu May 16, 2019 11:51 am

Pehealth wrote:
Wed May 15, 2019 7:47 pm
Are we talking hundreds per year or thousands per year when I withdrawal 4% during retirement ?
Rough guess, for moderate growth for example, you are losing maybe 25 bps in unnecessary capital gains and another 25 bps in unnecessary income taxes. This a complete guess since predicting the future is required for any real answer and I don't know anything about your tax/retirement situation. Is 50 bps a lot to you? Is $4,000+ additional taxes every single year from now on a lot? To me it is, but everyone is different. However this assumes you are in something like the 22% bracket and 15% LTCG bracket. If you have low income, the loss would be tiny/negligible in my opinion.

Any Bogleheads out there give me approval on staying with Lifestrategy?
I would definitely not start off with this strategy. Whether I would approve of staying in would depend on the amount of unrealized capital gains you have tied up and whether you plan to realize them (indirectly, it would depend on your age).

Topic Author
Pehealth
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Joined: Wed Mar 30, 2016 9:34 pm

Re: Confused about simplicity vs tax efficiency

Post by Pehealth » Thu May 16, 2019 3:02 pm

Thank you for all of the replies. All very helpful. By the way, when I found this blog in 2013, I had a variable annuity and funds with loads at American Funds including a 529 with American Funds. I have since transferred everything to Vanguard, opened a Utah 529, put enough money in my own state's 529 to get the income tax benefit, max out my 457, 403 b, roth and hsa with inheritance money supplementing my income. ALL is thanks to this blog, Bogleheads Guide to Retirement, and Clark Howard. You all have saved me TONS of money and made me much more knowledgeable. And it was just in time before taking on managing my parents finances and then inheriting money from them so it has been a huge benefit to learn from all of you.

However, I am having trouble grasping some of these tax efficient concepts. I a made an appointment with my accountant as I would like to at least make my upcoming 200,000+ contribution from a windfall selling my late parents' home (which will be 1/3 of my taxable) more efficient.

Megabad- thank you for making the example concrete with numbers. I know they are back of the envelope but it helps me understand. But I don't understand how I am losing that say $4,000 per year. My entire tax liability for 2018 was $2,800 (teach salary, credit for 3 kids in college, hdhp, max out 403b, lots of deductions). So I don't think I am paying $4,000 per year taxes for the taxable Lifestrategy Funds. Are you saying the I am loosing $4,000 of gains/earning in the taxable account that I would have if I did tax lost harvesting?

Everyone- after reading some of the great links you replied with, I learned that one of the reasons bonds are bad in taxable is that they are taxed as ordinary income while stocks are taxed as capital gains. However, when I called Vanguard concierge today to discuss that, they told me that Lifestategy is an all in one fund and that bonds are not separated out for reporting. They said that I will only pay capital gains tax on that fund, never any ordinary income tax. So is it solely a tax lost harvesting issue why the Life-strategy is inefficient?

RadAudit
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Re: Confused about simplicity vs tax efficiency

Post by RadAudit » Thu May 16, 2019 6:23 pm

Pehealth wrote:
Thu May 16, 2019 3:02 pm
I called Vanguard concierge today to discuss that, they told me that Lifestategy is an all in one fund and that bonds are not separated out for reporting. They said that I will only pay capital gains tax on that fund, never any ordinary income tax.
That's interesting. I thought I saw that a conservative growth life strategy fund distributed dividends and capital gains. How do they do that and avoid paying income taxes on the dividends?
FI is the best revenge. LBYM. Invest the rest. Stay the course. - PS: The cavalry isn't coming, kids. You are on your own.

megabad
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Re: Confused about simplicity vs tax efficiency

Post by megabad » Fri May 17, 2019 3:16 pm

Pehealth wrote:
Thu May 16, 2019 3:02 pm
Megabad- thank you for making the example concrete with numbers. I know they are back of the envelope but it helps me understand. But I don't understand how I am losing that say $4,000 per year. My entire tax liability for 2018 was $2,800 (teach salary, credit for 3 kids in college, hdhp, max out 403b, lots of deductions). So I don't think I am paying $4,000 per year taxes for the taxable Lifestrategy Funds. Are you saying the I am loosing $4,000 of gains/earning in the taxable account that I would have if I did tax lost harvesting?
You remember the part where I said I was guessing because I didn't know your tax situation? :D

You appear to be in the 0% LTCG tax bracket and the 10 or 12% marginal income tax bracket. The impact to you would be smaller. Only the interest would really impact you in this case. Assuming 2.5% dividend with 50% representing bond interest, you would looking at ~15 basis points in extra expenses. So I guess more like $1000-1200 per year.

Once again, very rough numbers. My assumptions do not include any advantages of tax loss harvesting since this is a little hard to predict. Tax loss harvesting for you likely does not make sense anyway. You would actually want to tax gain harvest if anything if you are in the 0% bracket.

Topic Author
Pehealth
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Re: Confused about simplicity vs tax efficiency

Post by Pehealth » Fri May 17, 2019 4:24 pm

Megabad
Thank you again megabad as I am really starting to understand this better. I called Vanguard back today LifeStrategy does indeed get reported dividends so I now understand that gets added to my taxable income. The US stock market index is 1.8% average dividends and the life strategy fund is 2.2% average dividends the according to my Phone call with Vanguard today.

So I calculated 600,000 in the account times .4% difference in Dividends = $24,000. I am in the 15% tax bracket so I think that means I paid 3600 more last year for being in the life strategy fund instead of the US stock market index. So megabad you are pretty darn close!

I will put my new 200,000 + taxable contribution into a combination of US stock and US international stock. I’m gonna talk to my accountant if I should convert the life strategy that’s already in there. And I’ll take a look at my Roth/403B and see if I should add more bonds with future contributions to offset me putting over 200,000 in stocks and to keep my desired asset location. How does that sound?

Thanks again for all of your help. It feels so good to be finally understanding this better.

I still need to do some reading on tax loss harvesting. It’s funny because at my job I know so much more than any of the other teachers. They don’t even understand how to use their HSA. They all come to me with questions. But then I come here and I am totally baffled by tax lost harvesting and have so much to learn.

Thesaints
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Re: Confused about simplicity vs tax efficiency

Post by Thesaints » Fri May 17, 2019 4:28 pm

Pehealth wrote:
Wed May 15, 2019 7:47 pm
I have about 600,000 in taxable. I have been very happy with the simplicity and asset allocation of the Life-strategy fund. I have a combo of growth and moderate growth funds. I don’t mind paying a little more in expenses and taxes. However, I will soon gave about 200,000 more to invest so I find myself wondering how much money were talking about in terms of tax and efficiency. Are we talking hundreds per year or thousands per year when I withdrawal 4% during retirement ?

Another way to word it, is this no big deal or am I doing something dumb ? I just don’t know what kind of difference we are talking about in taxes?

When I try to Figure out how to change my Roth, 403b, and taxable to put all the bonds tax advantaged funds, I get a headache doing the math of splitting the asset allocation and desired international percentage.

Aren’t I still better than most of the population by maxing my retirement accounts and having low cost funds. I will retire with about 2 million and a teacher’s pension and withdrawal a max of 4 % per year ( less in bad market years).

Any Bogleheads out there give me approval on staying with Lifestrategy?
Imagine an investor in a very high tax bracket. The "lifestrategy" fund invests, let's say, 60/40 and that 40% in bonds is in Vanguard total bond market.
Or, he could forget about simplicity and invest that 40% in his state tax-free bonds obtaining an after tax return maybe 36% higher.
Over 40% of your portfolio it looks to me as well worthy of a little headache.

PS numbers are not from fantasy: YTM of Intermediate Term Bonds is 2.88%. California Intermediate term is 1.92%. Marginal tax rate 49%, inclusive of CA taxes, medicare, and ACA supplements.

Quaestner
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Re: Confused about simplicity vs tax efficiency

Post by Quaestner » Fri May 17, 2019 5:26 pm

Sounds like you have a plan. Being more tax efficient with your new 200K investment is a great place to start. You can also "turn off" the automatic reinvestment of dividends and capital gains in the life-strategy fund. Instead of feeding them back into it, they can be directed towards, more tax efficient placement. If you have some tax sheltered investments too, I don't think it would be too hard to redirect new taxable investments to stocks (especially international, to get that tiny tax credit that adds up over the years), and shift some stocks to bonds in your tax sheltered account (where there aren't capital gains issues to worry about). That would keep you balanced.

I started out with a target date fund and after learning more regretted it. For how many more years will you be saving? You still have the opportunity to clean things up and save a few bucks.

longinvest
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Re: Confused about simplicity vs tax efficiency

Post by longinvest » Fri May 17, 2019 5:31 pm

Pehealth wrote:
Fri May 17, 2019 4:24 pm
So I calculated 600,000 in the account times .4% difference in Dividends = $24,000. I am in the 15% tax bracket so I think that means I paid 3600 more last year for being in the life strategy fund instead of the US stock market index. So megabad you are pretty darn close!
This is off by a factor of 10.
  • $600,000 X 0.4% = $2,400
  • $2,400 X 15% = $360.
I'd say that if you like the simplicity of the LifeStrategy fund, stick with it.
Last edited by longinvest on Fri May 17, 2019 5:37 pm, edited 1 time in total.
Bogleheads investment philosophy | single-ETF balanced portfolio | VBAL

Topic Author
Pehealth
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Joined: Wed Mar 30, 2016 9:34 pm

Re: Confused about simplicity vs tax efficiency

Post by Pehealth » Fri May 17, 2019 5:36 pm

Oohhh .4 %, not 4%! With my math skills, maybe I better stay with Lifestrategy, lol!

Thank you!!!

Vanguard Fan 1367
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Re: Confused about simplicity vs tax efficiency

Post by Vanguard Fan 1367 » Fri May 17, 2019 6:14 pm

Pehealth wrote:
Wed May 15, 2019 7:47 pm
I have about 600,000 in taxable. I have been very happy with the simplicity and asset allocation of the Life-strategy fund. I have a combo of growth and moderate growth funds. I don’t mind paying a little more in expenses and taxes. However, I will soon gave about 200,000 more to invest so I find myself wondering how much money were talking about in terms of tax and efficiency. Are we talking hundreds per year or thousands per year when I withdrawal 4% during retirement ?

Another way to word it, is this no big deal or am I doing something dumb ? I just don’t know what kind of difference we are talking about in taxes?

When I try to Figure out how to change my Roth, 403b, and taxable to put all the bonds tax advantaged funds, I get a headache doing the math of splitting the asset allocation and desired international percentage.

Aren’t I still better than most of the population by maxing my retirement accounts and having low cost funds. I will retire with about 2 million and a teacher’s pension and withdrawal a max of 4 % per year ( less in bad market years).

Any Bogleheads out there give me approval on staying with Lifestrategy?
You certainly are better off than most of the population (especially if you consider the entire world's population). I have "heard" that a fair number of millionaires are teachers and I congratulate you on your savings. I want to :oops: when I hear of friends going with high expense ratio funds, assets under management fees, and front end loaded funds.

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