Good Investments for 2-5 Years in Taxable

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Topic Author
keyfort
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Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 4:29 pm

Hi everyone,

What are your thoughts on good investments for a 2-5 year time frame? I know it's quite a wide range but I'd be happy to do 5 years if the returns were sufficiently better than 2.

We are MFP, California residents, at 32% federal tax and 9.3% state tax.

These investments would be in a taxable brokerage account, so I'm wondering if it's best to look for tax exempt bond funds for California / federal. Very new to this so not sure how it works, other than definitely not investing in stocks for this time frame.

With our tax rates I also noticed that even the best CDs on offer won't return all that much after tax is paid on them!

What do you think?

fyre4ce
Posts: 261
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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Tue Jun 11, 2019 4:40 pm

I use VCADX, Vanguard tax-exempt intermediate term CA muni bond fund. That's the Admiral shares version with a $50k minimum and a 0.09% ER. VCAIX is the investor shares version with a $3k minimum and a 0.17% ER. The 30 day yields are 1.74% and 1.66% respectively. Duration is 5 years, so wouldn't completely recover from rising rates in your time horizon, but gives a decent after-tax return if you're willing to take a little risk. If you want less risk, a CA money market, or even a taxable money market, would be OK.

I'm curious myself if anyone has a better idea.

Edit: Added CA in case it wasn't clear.
Last edited by fyre4ce on Tue Jun 11, 2019 4:55 pm, edited 1 time in total.

MotoTrojan
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Re: Good Investments for 2-5 Years in Taxable

Post by MotoTrojan » Tue Jun 11, 2019 4:45 pm

fyre4ce wrote:
Tue Jun 11, 2019 4:40 pm
I use VCADX, Vanguard tax-exempt intermediate term muni bond fund. That's the Admiral shares version with a $50k minimum and a 0.09% ER. VCAIX is the investor shares version with a $3k minimum and a 0.17% ER. The 30 day yields are 1.74% and 1.66% respectively. Duration is 5 years, so wouldn't completely recover from rising rates in your time horizon, but gives a decent after-tax return if you're willing to take a little risk. If you want less risk, a CA money market, or even a taxable money market, would be OK.

I'm curious myself if anyone has a better idea.
OP should start looking at yields in a tax-adjusted manner. At high federal and state income tax, a fully tax-exempt bond would do well. 5 years of duration risk is a bit much for this, but wouldn't be totally crazy either. If you want better principal protection you could check-out treasury bills/notes; they'll be taxed federally but exempt from the 9.3% state tax. You can pick some longer ones, or if you just stick with treasury bills you can use Fidelity to auto-roll them until you are ready to spend.

CDs will have better rates than treasuries right now, but are slightly less liquid and don't have the state tax benefit.

Like I said though, you need to look at tax-adjusted yield before comparing any other pros & cons, given your high tax situation.

Topic Author
keyfort
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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 4:54 pm

fyre4ce wrote:
Tue Jun 11, 2019 4:40 pm
I use VCADX, Vanguard tax-exempt intermediate term muni bond fund. That's the Admiral shares version with a $50k minimum and a 0.09% ER. VCAIX is the investor shares version with a $3k minimum and a 0.17% ER. The 30 day yields are 1.74% and 1.66% respectively. Duration is 5 years, so wouldn't completely recover from rising rates in your time horizon, but gives a decent after-tax return if you're willing to take a little risk. If you want less risk, a CA money market, or even a taxable money market, would be OK.

I'm curious myself if anyone has a better idea.
Thank you. I had a look at CA money market, which is VCTXX (I think). So is this a bond fund? Or it's a fund that invests in bonds underneath? I'm hopeless at understanding this page. And the return is 1.2%? There are no dividends I'm guessing? It seems like getting a 2.7% return from a CD but getting taxed would be better than this no?

Topic Author
keyfort
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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 4:57 pm

MotoTrojan wrote:
Tue Jun 11, 2019 4:45 pm
fyre4ce wrote:
Tue Jun 11, 2019 4:40 pm
I use VCADX, Vanguard tax-exempt intermediate term muni bond fund. That's the Admiral shares version with a $50k minimum and a 0.09% ER. VCAIX is the investor shares version with a $3k minimum and a 0.17% ER. The 30 day yields are 1.74% and 1.66% respectively. Duration is 5 years, so wouldn't completely recover from rising rates in your time horizon, but gives a decent after-tax return if you're willing to take a little risk. If you want less risk, a CA money market, or even a taxable money market, would be OK.

I'm curious myself if anyone has a better idea.
OP should start looking at yields in a tax-adjusted manner. At high federal and state income tax, a fully tax-exempt bond would do well. 5 years of duration risk is a bit much for this, but wouldn't be totally crazy either. If you want better principal protection you could check-out treasury bills/notes; they'll be taxed federally but exempt from the 9.3% state tax. You can pick some longer ones, or if you just stick with treasury bills you can use Fidelity to auto-roll them until you are ready to spend.

CDs will have better rates than treasuries right now, but are slightly less liquid and don't have the state tax benefit.

Like I said though, you need to look at tax-adjusted yield before comparing any other pros & cons, given your high tax situation.
Thank you also.

I think for our tax-adjusted best CD rate for 3 years, we could take e.g. 2.7%, of which we lose about 40% (32% + 9.3% minus some allowances?) so about 1.62% tax-adjusted. Worse than inflation!

bck63
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Re: Good Investments for 2-5 Years in Taxable

Post by bck63 » Tue Jun 11, 2019 5:21 pm

VMLTX, Vaguard Limited Term Tax Exempt Fund, has a duration of 2.4 years, which might fit within your time horizon. I am only in the 22% tax bracket, and I use FNSOX, Fidelity Short-Term Bond Index Fund -- a nice fund with an ER O 0.03%.

fyre4ce
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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Tue Jun 11, 2019 5:39 pm

keyfort wrote:
Tue Jun 11, 2019 4:57 pm

Thank you also.

I think for our tax-adjusted best CD rate for 3 years, we could take e.g. 2.7%, of which we lose about 40% (32% + 9.3% minus some allowances?) so about 1.62% tax-adjusted. Worse than inflation!
Your marginal tax rate on investment income is probably 45.1% (32% federal + 9.3% CA + 3.8% NIIT). If you're affected by the child tax credit phase-out or Section 199A deductions, it could be higher. I'm sure your state taxes are capped by the $10k SALT limitation so you're not able to deduct additional CA taxes on your federal return. If you know of an allowance that lowers your rate, please let us know.

A CD that pays 2.7% has an after-tax yield of 2.7% * (1 - 45.1%) = 1.4823%

Topic Author
keyfort
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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 6:31 pm

fyre4ce wrote:
Tue Jun 11, 2019 5:39 pm
keyfort wrote:
Tue Jun 11, 2019 4:57 pm

Thank you also.

I think for our tax-adjusted best CD rate for 3 years, we could take e.g. 2.7%, of which we lose about 40% (32% + 9.3% minus some allowances?) so about 1.62% tax-adjusted. Worse than inflation!
Your marginal tax rate on investment income is probably 45.1% (32% federal + 9.3% CA + 3.8% NIIT). If you're affected by the child tax credit phase-out or Section 199A deductions, it could be higher. I'm sure your state taxes are capped by the $10k SALT limitation so you're not able to deduct additional CA taxes on your federal return. If you know of an allowance that lowers your rate, please let us know.

A CD that pays 2.7% has an after-tax yield of 2.7% * (1 - 45.1%) = 1.4823%
Ah ok, thanks. Yea I wasn't exactly sure how this works. The 199A deduction is phased out for us but this year it probably won't be as far as I can tell, so we'll get the full deduction. Doesn't that effectively reduce our overall tax rate? For the allowances, I only meant deducting business expenses, but really that won't affect the rate so please forget I said that!

So if a tax exempt bond fund at Vanguard with a little more risk pays out 1.6 or 1.7%, I'm not sure that's a wise decision for me, just to go up from 1.4823%.

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Kevin M
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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Tue Jun 11, 2019 6:56 pm

fyre4ce wrote:
Tue Jun 11, 2019 4:40 pm
I use VCADX, Vanguard tax-exempt intermediate term CA muni bond fund. That's the Admiral shares version with a $50k minimum and a 0.09% ER. VCAIX is the investor shares version with a $3k minimum and a 0.17% ER. The 30 day yields are 1.74% and 1.66% respectively.
Taxable-equivalent yield (TEY) at 32% and 9.3%, ignoring NIIT for now (we an add that in later if desired), on VCADX at 1.74% is 2.96%. Interestingly, TEY on the national intermediate-term muni fund, VWIUX, is only 4 basis points less, at 2.92%, and duration is slightly lower, at 4.9 years compared to 5.0 years for VCADX. So you don't really get anything extra for taking on the state-specific risk.

Having said that, I continue to hold my shares of this fund, along with the long-term fund, VCLAX.

I probably wouldn't hold either for a 2-5 year timeframe, and am not adding to these funds with new cash.
Duration is 5 years, so wouldn't completely recover from rising rates in your time horizon, but gives a decent after-tax return if you're willing to take a little risk.
The duration doesn't tell you when you'd "recover from rising rates in your time horizon", whatever that means. It gives you an estimate of what time period you are indifferent to a one-time change in yields at the beginning of the period.
If you want less risk, a CA money market, or even a taxable money market, would be OK.
Tax-exempt money market yields are cyclical, with several highs and lows each year. Currently, again at 32% and 9.3%, TEY is only 2.04% for VCTXX (CA muni MM).

Best bet for a money market fund is Treasury MM at a TEY of 2.70% at those tax rates (again, ignoring NIIT, but it doesn't make much difference for Treasuries).

With less than $50K, best runner-up MM fund is Federal MM, with an estimated TEY of 2.61%, assuming income from US government obligations for 2019 is about the same as for 2018, at about 78%.

OP could look at individual AA/AAA munis, but yield curves are flat or inverted out to 3-year maturity, so you don't get much if anything for extending maturity from a MM fund to 2-3 year maturity. You get a little more going out to five years, but IMO, not enough to compensate for the extra term risk.

The flip side is that short-term rates are expected to fall further, so you could end up better locking in a lower rate for a 5-year timeframe than rolling shorter-term maturities over that timeframe. The flip-flip side is that the Treasury term premium is negative out to at least 10 years, at least according to one popular model, which means that the expectation is that rolling very short-term Treasuries is expected to return more than holding longer-term Treasuries.

I see rates in the 3% ballpark for 2-year CDs at https://www.depositaccounts.com/cd/2-year-cd-rates.html, which looks better than any Treasury or muni for that timeframe. CD yield curve is pretty flat, but at least not inverted, out to 5-year maturity, so you can get maybe 3.3-3.4% with a direct CD: https://www.depositaccounts.com/cd/5-year-cd-rates.html. Brokered CD yields have dropped a lot compared to direct CDs, as other yields have fallen, so brokered CDs don't look so good now compared to direct CDs.

Kevin
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fyre4ce
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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Tue Jun 11, 2019 7:05 pm

keyfort wrote:
Tue Jun 11, 2019 6:31 pm
Ah ok, thanks. Yea I wasn't exactly sure how this works. The 199A deduction is phased out for us but this year it probably won't be as far as I can tell, so we'll get the full deduction. Doesn't that effectively reduce our overall tax rate? For the allowances, I only meant deducting business expenses, but really that won't affect the rate so please forget I said that!

So if a tax exempt bond fund at Vanguard with a little more risk pays out 1.6 or 1.7%, I'm not sure that's a wise decision for me, just to go up from 1.4823%.
Unfortunately, Section 199A made the tax code even more complex. I'm assuming you're married.

199A deductions for "specified service businesses" get phased out between $321,400 and $421,400 after below-the-line deductions ($24,400 standard deduction or Schedule A itemized deductions). If you're above $421,400 ($445,800 AGI with standard deduction), you get no 199A deduction. If you're below $321,400 ($345,800 AGI with standard deduction), then you get 100% 199A deduction. If you're between these two values, then the deduction gets phased out linearly from 100% to 0.

If you are below $321,400, it's true that the 199A deduction reduces your marginal tax rate by 20% (for example, from 24% to 24% * 80% = 19.2%) for Qualified Business Income. Other income, such as interest from a CD, does not count as QBI and doesn't get the 199A deduction, so it's just taxed at your full marginal rate (eg. 24%), plus state taxes and NIIT if applicable.

If you're between $321,450 and $421,450, then the calculation gets more complex. Each dollar of income gets taxed, and also shrinks the amount of QBI you get to deduct, so the double whammy boosts your tax rate up. Marginal tax rates over 60% :shock: are possible in the higher end of the phase-out range, depending on how much QBI and non-QBI you have.

If you're affected by the 199A phase-out, I would definitely lean toward tax-free investments over CDs. If you have something like a worst-case 66.2% federal marginal rate due to the 199A phase-out, plus state taxes and NIIT, your 2.7% CD will only return 2.7% * (1 - 66.2% - 9.3% - 3.8%) = 0.5589%

Don't mean to scare you, it's probably not that bad, but the phase-out can have a dramatic effect that I would definitely look into before choosing an investment.

Topic Author
keyfort
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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 7:30 pm

fyre4ce wrote:
Tue Jun 11, 2019 7:05 pm
keyfort wrote:
Tue Jun 11, 2019 6:31 pm
Ah ok, thanks. Yea I wasn't exactly sure how this works. The 199A deduction is phased out for us but this year it probably won't be as far as I can tell, so we'll get the full deduction. Doesn't that effectively reduce our overall tax rate? For the allowances, I only meant deducting business expenses, but really that won't affect the rate so please forget I said that!

So if a tax exempt bond fund at Vanguard with a little more risk pays out 1.6 or 1.7%, I'm not sure that's a wise decision for me, just to go up from 1.4823%.
Unfortunately, Section 199A made the tax code even more complex. I'm assuming you're married.

199A deductions for "specified service businesses" get phased out between $321,400 and $421,400 after below-the-line deductions ($24,400 standard deduction or Schedule A itemized deductions). If you're above $421,400 ($445,800 AGI with standard deduction), you get no 199A deduction. If you're below $321,400 ($345,800 AGI with standard deduction), then you get 100% 199A deduction. If you're between these two values, then the deduction gets phased out linearly from 100% to 0.

If you are below $321,400, it's true that the 199A deduction reduces your marginal tax rate by 20% (for example, from 24% to 24% * 80% = 19.2%) for Qualified Business Income. Other income, such as interest from a CD, does not count as QBI and doesn't get the 199A deduction, so it's just taxed at your full marginal rate (eg. 24%), plus state taxes and NIIT if applicable.

If you're between $321,450 and $421,450, then the calculation gets more complex. Each dollar of income gets taxed, and also shrinks the amount of QBI you get to deduct, so the double whammy boosts your tax rate up. Marginal tax rates over 60% :shock: are possible in the higher end of the phase-out range, depending on how much QBI and non-QBI you have.

If you're affected by the 199A phase-out, I would definitely lean toward tax-free investments over CDs. If you have something like a worst-case 66.2% federal marginal rate due to the 199A phase-out, plus state taxes and NIIT, your 2.7% CD will only return 2.7% * (1 - 66.2% - 9.3% - 3.8%) = 0.5589%

Don't mean to scare you, it's probably not that bad, but the phase-out can have a dramatic effect that I would definitely look into before choosing an investment.
Wow, I see what you mean about some worst case scenarios. Complicated and bad. Yes, we are married and filing jointly so those bands would be correct for us.

I'm guessing that business expenses for a sole proprietor are deducted before QBI as well, like the standard deduction? If so, then I can see that if a couple's gross income is let's say $10k above $345,800, so $355,800, then $10k in business expenses would be at a surprisingly high 'effective' discount to bring things back down below the QBI phaseout. Maybe that's wrong, and certainly something for another conversation.

fyre4ce
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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Tue Jun 11, 2019 8:00 pm

keyfort wrote:
Tue Jun 11, 2019 7:30 pm
Wow, I see what you mean about some worst case scenarios. Complicated and bad. Yes, we are married and filing jointly so those bands would be correct for us.

I'm guessing that business expenses for a sole proprietor are deducted before QBI as well, like the standard deduction? If so, then I can see that if a couple's gross income is let's say $10k above $345,800, so $355,800, then $10k in business expenses would be at a surprisingly high 'effective' discount to bring things back down below the QBI phaseout. Maybe that's wrong, and certainly something for another conversation.
I believe it works like this:

Assume $355,800 adjusted gross income, which is all QBI.
$355,800 - $24,400 std ded. = $331,400 taxable before 199A ded.
Deduction is limited to 20% * ($421,450 - $331,400) / ($421,450 - $321,450) = 18.01%
Deduction is lesser of taxable income or QBI (smaller of $355,800 or $331,400 = $331,400)
$331,400 - 18.01% * $331,400 199A ded. = $271,714.90 taxable after 199A ded.
Federal tax due (by quick Excel table) = $53,560.57 (in 24% bracket)

Assume $345,800 adjusted gross income, which is all QBI.
$345,800 - $24,400 std ded. = $321,400 taxable before 199A ded.
Deduction is full 20%
Deduction is lesser of taxable income or QBI (smaller of $345,800 or $321,400 = $321,400)
$321,400 - 20% * $321,400 199A ded. = $257,120 taxable after 199A ded.
Federal tax due (by quick Excel table) = $50,057.80 (also in 24% bracket)

Difference in tax = $53,560.57 - $50,057.80 = $3,502.77

Despite being in the 24% federal bracket, your tax rate on this $10k deduction is actually ~35%, almost 1.5x the rate by the brackets. The math works the same way for a $10k increase in income as a $10k business deduction. Add to this the 9.3% CA tax, and your total tax rate is ~44.32%. As you go higher into the phase-out, the rate gets higher, partly because you jump into the 32% and 35% brackets and partly because you're losing more of the deduction.

Section 199A is complicated; if anyone sees a mistake here, please let me know.

Topic Author
keyfort
Posts: 92
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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 8:04 pm

Kevin M wrote:
Tue Jun 11, 2019 6:56 pm

Taxable-equivalent yield (TEY) at 32% and 9.3%, ignoring NIIT for now (we an add that in later if desired), on VCADX at 1.74% is 2.96%. Interestingly, TEY on the national intermediate-term muni fund, VWIUX, is only 4 basis points less, at 2.92%, and duration is slightly lower, at 4.9 years compared to 5.0 years for VCADX. So you don't really get anything extra for taking on the state-specific risk.

Having said that, I continue to hold my shares of this fund, along with the long-term fund, VCLAX.

I probably wouldn't hold either for a 2-5 year timeframe, and am not adding to these funds with new cash.

The duration doesn't tell you when you'd "recover from rising rates in your time horizon", whatever that means. It gives you an estimate of what time period you are indifferent to a one-time change in yields at the beginning of the period.

Tax-exempt money market yields are cyclical, with several highs and lows each year. Currently, again at 32% and 9.3%, TEY is only 2.04% for VCTXX (CA muni MM).

Best bet for a money market fund is Treasury MM at a TEY of 2.70% at those tax rates (again, ignoring NIIT, but it doesn't make much difference for Treasuries).

With less than $50K, best runner-up MM fund is Federal MM, with an estimated TEY of 2.61%, assuming income from US government obligations for 2019 is about the same as for 2018, at about 78%.

OP could look at individual AA/AAA munis, but yield curves are flat or inverted out to 3-year maturity, so you don't get much if anything for extending maturity from a MM fund to 2-3 year maturity. You get a little more going out to five years, but IMO, not enough to compensate for the extra term risk.

The flip side is that short-term rates are expected to fall further, so you could end up better locking in a lower rate for a 5-year timeframe than rolling shorter-term maturities over that timeframe. The flip-flip side is that the Treasury term premium is negative out to at least 10 years, at least according to one popular model, which means that the expectation is that rolling very short-term Treasuries is expected to return more than holding longer-term Treasuries.

I see rates in the 3% ballpark for 2-year CDs at https://www.depositaccounts.com/cd/2-year-cd-rates.html, which looks better than any Treasury or muni for that timeframe. CD yield curve is pretty flat, but at least not inverted, out to 5-year maturity, so you can get maybe 3.3-3.4% with a direct CD: https://www.depositaccounts.com/cd/5-year-cd-rates.html. Brokered CD yields have dropped a lot compared to direct CDs, as other yields have fallen, so brokered CDs don't look so good now compared to direct CDs.

Kevin
Thanks for the detailed post. I wasn't able to follow all of it but it was helpful to me nonetheless.

So if the best CD rate I can get is e.g. 2.7% over 3 years, then taking NIIT into account (3.8%) as well as 32% federal and 9.3% state, my post tax rate would be: 2.7% * 0.549 = 1.4823% as per the post above from fyre4ce. Am I right in considering that the absolute lowest risk? FDIC insured, simple CD.

So I'm looking for something above 1.4823% and have to take increased risk into account. I guess that's the starting point!
Last edited by keyfort on Tue Jun 11, 2019 8:09 pm, edited 1 time in total.

Topic Author
keyfort
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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 8:08 pm

fyre4ce wrote:
Tue Jun 11, 2019 8:00 pm
keyfort wrote:
Tue Jun 11, 2019 7:30 pm
Wow, I see what you mean about some worst case scenarios. Complicated and bad. Yes, we are married and filing jointly so those bands would be correct for us.

I'm guessing that business expenses for a sole proprietor are deducted before QBI as well, like the standard deduction? If so, then I can see that if a couple's gross income is let's say $10k above $345,800, so $355,800, then $10k in business expenses would be at a surprisingly high 'effective' discount to bring things back down below the QBI phaseout. Maybe that's wrong, and certainly something for another conversation.
I believe it works like this:

Assume $355,800 adjusted gross income, which is all QBI.
$355,800 - $24,400 std ded. = $331,400 taxable before 199A ded.
Deduction is limited to 20% * ($421,450 - $331,400) / ($421,450 - $321,450) = 18.01%
Deduction is lesser of taxable income or QBI (smaller of $355,800 or $331,400 = $331,400)
$331,400 - 18.01% * $331,400 199A ded. = $271,714.90 taxable after 199A ded.
Federal tax due (by quick Excel table) = $53,560.57 (in 24% bracket)

Assume $345,800 adjusted gross income, which is all QBI.
$345,800 - $24,400 std ded. = $321,400 taxable before 199A ded.
Deduction is full 20%
Deduction is lesser of taxable income or QBI (smaller of $345,800 or $321,400 = $321,400)
$321,400 - 20% * $321,400 199A ded. = $257,120 taxable after 199A ded.
Federal tax due (by quick Excel table) = $50,057.80 (also in 24% bracket)

Difference in tax = $53,560.57 - $50,057.80 = $3,502.77

Despite being in the 24% federal bracket, your tax rate on this $10k deduction is actually ~35%, almost 1.5x the rate by the brackets. The math works the same way for a $10k increase in income as a $10k business deduction. Add to this the 9.3% CA tax, and your total tax rate is ~44.32%. As you go higher into the phase-out, the rate gets higher, partly because you jump into the 32% and 35% brackets and partly because you're losing more of the deduction.

Section 199A is complicated; if anyone sees a mistake here, please let me know.
Assuming this is correct, then we could say that $10k of business expenses in this case is at a discount of about 44.32%... which is quite interesting. People in this range must be taking advantage of this right? As in, once they see their business profit in that range (entering the QBI phase out), they purchase some business items, software etc, to bring down their profit, investing for future business years all at an effectively higher discount? Am I missing something?

fyre4ce
Posts: 261
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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Tue Jun 11, 2019 8:20 pm

keyfort wrote:
Tue Jun 11, 2019 8:08 pm
Assuming this is correct, then we could say that $10k of business expenses in this case is at a discount of about 44.32%... which is quite interesting. People in this range must be taking advantage of this right? As in, once they see their business profit in that range (entering the QBI phase out), they purchase some business items, software etc, to bring down their profit, investing for future business years all at an effectively higher discount? Am I missing something?
The only thing you may be missing is that businesses should generally take all of the tax deductions they're legally entitled to, and 199A doesn't change that. Buying software you don't need so you can reduce your taxes is spending a dollar to save 44 cents... not a good idea. If you need the software then you should buy it and take the deduction regardless of 199A. If you're deducting things you shouldn't be deducting, well, that's illegal, regardless of tax rates.

Where this does change the picture slightly is multi-year tax planning. For example, if your business ordinary makes about $300k per year, and you know you're on-track to make $450k this year only, and you have some piece of capital equipment that's almost worn out, it might make sense to replace it this year and write off the cost (assuming you can depreciate a meaningful percentage of it) rather than wait to future years. 199A amplifies this effect by having high rates but historically tax rates increase with income, so the same strategy has been around for a while.

Topic Author
keyfort
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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 8:35 pm

fyre4ce wrote:
Tue Jun 11, 2019 8:20 pm
keyfort wrote:
Tue Jun 11, 2019 8:08 pm
Assuming this is correct, then we could say that $10k of business expenses in this case is at a discount of about 44.32%... which is quite interesting. People in this range must be taking advantage of this right? As in, once they see their business profit in that range (entering the QBI phase out), they purchase some business items, software etc, to bring down their profit, investing for future business years all at an effectively higher discount? Am I missing something?
The only thing you may be missing is that businesses should generally take all of the tax deductions they're legally entitled to, and 199A doesn't change that. Buying software you don't need so you can reduce your taxes is spending a dollar to save 44 cents... not a good idea. If you need the software then you should buy it and take the deduction regardless of 199A. If you're deducting things you shouldn't be deducting, well, that's illegal, regardless of tax rates.

Where this does change the picture slightly is multi-year tax planning. For example, if your business ordinary makes about $300k per year, and you know you're on-track to make $450k this year only, and you have some piece of capital equipment that's almost worn out, it might make sense to replace it this year and write off the cost (assuming you can depreciate a meaningful percentage of it) rather than wait to future years. 199A amplifies this effect by having high rates but historically tax rates increase with income, so the same strategy has been around for a while.
Yup totally agree - and it's your second paragraph's example I'm really thinking about. Since we are around that level of income generally most years, if I notice one year that we'll be higher, then that would be a good year to refresh some equipment and so on.

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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Tue Jun 11, 2019 8:47 pm

Going back to the topic of the thread, according to this list of funds by Vanguard: https://investor.vanguard.com/mutual-fu ... nd-returns

If I filter by tax exempt only, and decide to go Money Market only for safety, I get:

VCTXX
VMSXX
VNJXX
VYFXX
VPTXX

VMSXX is the only federally tax exempt one and also has the highest yield (1.46% apparently) so I guess this is best? But it only beats our 1.43% from earlier by a tiny amount!

Does the 1.46% take into account dividends?

Edit: I see it's 1.38% SEC yield, so really is there any point to this over a normal CD?

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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Tue Jun 11, 2019 11:38 pm

keyfort wrote:
Tue Jun 11, 2019 8:47 pm
Going back to the topic of the thread, according to this list of funds by Vanguard: https://investor.vanguard.com/mutual-fu ... nd-returns

If I filter by tax exempt only, and decide to go Money Market only for safety, I get:

VCTXX
VMSXX
VNJXX
VYFXX
VPTXX

VMSXX is the only federally tax exempt one and also has the highest yield (1.46% apparently) so I guess this is best? But it only beats our 1.43% from earlier by a tiny amount!

Does the 1.46% take into account dividends?

Edit: I see it's 1.38% SEC yield, so really is there any point to this over a normal CD?
It's best to look at the SEC yield I think, but as has ben pointed out, the yield oscillates quite a bit every quarter. If anyone here knows how to predict those oscillations I'd love to know.

VCTXX is a California fund, so is tax-free federally and state for you. The 1.20% yield is what you'll get after-tax, plus or minus oscillations.

VMSXX is federally tax-free but not tax-free for any state. If your pre-tax yield is 1.38%, your after-tax yield will be 1.38% * (1 - 9.3%) ~= 1.25%

The other three funds are tax-free in NY, NJ, and PA. Their yields are a hair lower than VMSXX so they don't make sense for you.

It looks like VMSXX has the highest after-tax yield for you, and is also more diversified than VCTXX, although for a low risk investment like this, that isn't a huge concern.

None of these funds pay "dividends". Dividends are paid by stocks; these funds don't contain stocks. These funds pay interest.

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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Wed Jun 12, 2019 12:44 am

fyre4ce wrote:
Tue Jun 11, 2019 11:38 pm
keyfort wrote:
Tue Jun 11, 2019 8:47 pm
Going back to the topic of the thread, according to this list of funds by Vanguard: https://investor.vanguard.com/mutual-fu ... nd-returns

If I filter by tax exempt only, and decide to go Money Market only for safety, I get:

VCTXX
VMSXX
VNJXX
VYFXX
VPTXX

VMSXX is the only federally tax exempt one and also has the highest yield (1.46% apparently) so I guess this is best? But it only beats our 1.43% from earlier by a tiny amount!

Does the 1.46% take into account dividends?

Edit: I see it's 1.38% SEC yield, so really is there any point to this over a normal CD?
It's best to look at the SEC yield I think, but as has ben pointed out, the yield oscillates quite a bit every quarter. If anyone here knows how to predict those oscillations I'd love to know.

VCTXX is a California fund, so is tax-free federally and state for you. The 1.20% yield is what you'll get after-tax, plus or minus oscillations.

VMSXX is federally tax-free but not tax-free for any state. If your pre-tax yield is 1.38%, your after-tax yield will be 1.38% * (1 - 9.3%) ~= 1.25%

The other three funds are tax-free in NY, NJ, and PA. Their yields are a hair lower than VMSXX so they don't make sense for you.

It looks like VMSXX has the highest after-tax yield for you, and is also more diversified than VCTXX, although for a low risk investment like this, that isn't a huge concern.

None of these funds pay "dividends". Dividends are paid by stocks; these funds don't contain stocks. These funds pay interest.
Thank you very much! I see that it's a struggle to get a higher post-tax return when investing for a few years..

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Re: Good Investments for 2-5 Years in Taxable

Post by The Wizard » Wed Jun 12, 2019 7:35 am

In my taxable account, I hold both VFIAX (S&P 500) and VTSAX (Total Stock Market) right now, due to a TLH maneuver a while back.

These funds will be used to buy a new car every so often.

I no longer hold any bond funds or savings accounts in taxable; I don't like paying additional ordinary income tax on those funds.
I much prefer the lower tax rate on qualified dividends and LTCGs...
Attempted new signature...

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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Wed Jun 12, 2019 11:33 am

The Wizard wrote:
Wed Jun 12, 2019 7:35 am
In my taxable account, I hold both VFIAX (S&P 500) and VTSAX (Total Stock Market) right now, due to a TLH maneuver a while back.

These funds will be used to buy a new car every so often.

I no longer hold any bond funds or savings accounts in taxable; I don't like paying additional ordinary income tax on those funds.
I much prefer the lower tax rate on qualified dividends and LTCGs...
Only trouble is that we don't have any retirement accounts yet! We have some taxable which we need to save for a shorter term than stocks. So we can't do VTSAX for just 2-5 years with a new lump sum..

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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Wed Jun 12, 2019 11:35 am

keyfort wrote:
Tue Jun 11, 2019 8:47 pm
Going back to the topic of the thread, according to this list of funds by Vanguard: https://investor.vanguard.com/mutual-fu ... nd-returns

If I filter by tax exempt only, and decide to go Money Market only for safety, I get:

VCTXX
VMSXX
VNJXX
VYFXX
VPTXX

VMSXX is the only federally tax exempt one and also has the highest yield (1.46% apparently) so I guess this is best? But it only beats our 1.43% from earlier by a tiny amount!
By filtering on tax exempt, you miss Treasury MM (VUSXX) and Federal MM (VMFXX), which as I've already explained, are your best choices for money market funds.

As mentioned by another poster, the state tax-exempt funds for other states than your own are irrelevant, as you get no state tax exemption from them.

So the list you should be looking at is:

VCTXX (CA muni MM)
VMSXX (natl muni MM)
VUSXX (Treasury MM)
VMFXX (Federal MM)
keyfort wrote:
Tue Jun 11, 2019 8:47 pm
Does the 1.46% take into account dividends?
This is a trailing 1-year return as of 5/31/2019. Yes, it does include dividends. As a matter of fact, it only includes dividends, as dividends almost always make up 100% of the return of a money market fund. The NAV is constant at $1, and there rarely are any capital gain distributions.
keyfort wrote:
Tue Jun 11, 2019 8:47 pm
Edit: I see it's 1.38% SEC yield, so really is there any point to this over a normal CD?
You need to convert everything to taxable-equivalent yield (TEY) or after-tax yield (ATY) to compare. To compare to the APY of a CD (as opposed to the rate), you need to convert to compound TEY or ATY.

I usually work with TEY or compound TEY, as that way you can compare directly to quotes you see for CDs or savings accounts. Most of the calculations in the thread are showing ATY, which is fine, but then you need to calculate the ATY of the CD to compare.

Here are some numbers that take the 3.8% NIIT into account, just adding that to the federal income tax rate of 32% for simplicity (there may be some nuances around NIIT and state tax). As discussed, these aren't necessarily your marginal tax rates, which is what you really should use in the calculations; the marginal tax rates include impacts of deduction and credit phase-outs and phase-ins, etc.

Fund: SEC CmpdSEC TEY CmpdTEY ATY CmpdATY

VCTXX (CA muni MM): 1.20% 1.21% 2.19% 2.21% 1.20% 1.21%
VMSXX (ntl muni MM): 1.38% 1.39% 2.28% 2.31% 1.25% 1.26%
VUSXX (Treasury MM): 2.32% 2.35% 2.71% 2.75% 1.49% 1.50%
VMFXX (Federal MM): 2.31% 2.34% 2.62% 2.65% 1.44% 1.45%

It is the fourth column of yields, CmpdTEY, that you should be comparing to CD or savings account APYs. As I mentioned, you can get a 2-year CD at around 3% if you are willing to join a new bank or credit union (unless one of yours offers very competitive rates). So you can do a bit better than the best MM fund yield with a 2-year CD.

The caveat is that we don't know what the average MM fund rate will be over the next two years, and that's what will determined the 2-year return. The bond market seems to think that yields will decline over the next two years, as the 2-year Treasury yield at 1.93% is lower than the 1-month Treasury yield at 2.27%.

Considering all of this, I think a 2-year CD at 3% is an excellent deal at your tax rates.

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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Wed Jun 12, 2019 11:56 am

fyre4ce wrote:
Tue Jun 11, 2019 11:38 pm
It's best to look at the SEC yield I think, but as has ben pointed out, the yield oscillates quite a bit every quarter. If anyone here knows how to predict those oscillations I'd love to know.
They are pretty regular, but they aren't identical from one year to the next. You don't really need to predict them, since it's easy to exchange from one MM fund to another if the relative TEYs change such that one becomes more attractive than another. I switched from VUSXX to VCTXX for about a week recently, which was as long as the TEY was higher for me. There's a long thread with lots of data on this: Vanguard Municipal Money Market VMSXX 1.39%
fyre4ce wrote:
Tue Jun 11, 2019 11:38 pm
VCTXX is a California fund, so is tax-free federally and state for you. The 1.20% yield is what you'll get after-tax, plus or minus oscillations.
To be more precise, 1.20% is the annualized average return for the 7 calendar days ending 6/11/2019. Also, it's not just the oscillations that determine what you'll earn going forward, but also the general movement of short-term CA muni yields.
fyre4ce wrote:
Tue Jun 11, 2019 11:38 pm
It looks like VMSXX has the highest after-tax yield for you, and is also more diversified than VCTXX, although for a low risk investment like this, that isn't a huge concern.
VUSXX and VMFXX are better at OP's indicated tax rates, and are even lower risk.
fyre4ce wrote:
Tue Jun 11, 2019 11:38 pm
None of these funds pay "dividends". Dividends are paid by stocks; these funds don't contain stocks. These funds pay interest.
Yes, they do pay dividends, and the dividends are reported on 1099-DIV. Interest is reported on 1099-INT.

The underlying securities pay interest, but the mutual fund, a registered investment company, passes the interest on to the shareholders in the form of dividends.

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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Wed Jun 12, 2019 12:13 pm

Kevin M wrote:
Wed Jun 12, 2019 11:56 am
fyre4ce wrote:
Tue Jun 11, 2019 11:38 pm
None of these funds pay "dividends". Dividends are paid by stocks; these funds don't contain stocks. These funds pay interest.
Yes, they do pay dividends, and the dividends are reported on 1099-DIV. Interest is reported on 1099-INT.

The underlying securities pay interest, but the mutual fund, a registered investment company, passes the interest on to the shareholders in the form of dividends.

Kevin
Huh, didn't know that. My money market account pays me interest on a 1099-INT, but sounds like there's a difference between a MM account and fund.

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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Wed Jun 12, 2019 12:59 pm

fyre4ce wrote:
Wed Jun 12, 2019 12:13 pm
Kevin M wrote:
Wed Jun 12, 2019 11:56 am
fyre4ce wrote:
Tue Jun 11, 2019 11:38 pm
None of these funds pay "dividends". Dividends are paid by stocks; these funds don't contain stocks. These funds pay interest.
Yes, they do pay dividends, and the dividends are reported on 1099-DIV. Interest is reported on 1099-INT.

The underlying securities pay interest, but the mutual fund, a registered investment company, passes the interest on to the shareholders in the form of dividends.

Kevin
Huh, didn't know that. My money market account pays me interest on a 1099-INT, but sounds like there's a difference between a MM account and fund.
Yep, a bank or credit union money market account is a different beast than a money market mutual fund. You probably have FDIC insurance (or NCUA if at a credit union) on your MMA, but you don't get that with a money market fund. Your MMA probably also is restricted to six withdrawals per month without incurring a fee, while there is no such restriction on a MM fund. Your MMA probably quotes an APY, while a MM fund quotes a 7-day SEC yield. Etc.

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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Wed Jun 12, 2019 3:22 pm

fyre4ce wrote:
Wed Jun 12, 2019 12:13 pm
...
Kevin M wrote:
Wed Jun 12, 2019 11:35 am
...
Thank you both for your help and patience in explaining all of this.

So following all of that, I am leaning towards VUSXX.

The reason is that my preference is for these savings to be held at the brokerage we're at, so a CD at another bank, while probably securing a slightly better post tax return, isn't overall as attractive.

The amount to invest is around $200,000 so VUSXX minimum would be met.

However, I am quite confused about tax treatment of VUSXX and especially VMFXX. I've read that VMFXX has a partial tax exemption depending on the underlying investments, and that to determine the tax in your specific case, you have to read some documents released by Vanguard, possibly after the tax year is up (not sure on this last bit). Anyway, unless a simple 1099-DIV is produced with the tax exemption taken into account for fed and state, this sounds like one hell of a headache!

I'm assuming that VUSXX is simply tax exempt at the state level entirely but pays federal tax. If so, why doesn't Vanguard put this fund in its list of tax exempt funds?!

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Re: Good Investments for 2-5 Years in Taxable

Post by keyfort » Wed Jun 12, 2019 3:30 pm

Kevin M wrote:
Wed Jun 12, 2019 11:35 am
Here are some numbers that take the 3.8% NIIT into account, just adding that to the federal income tax rate of 32% for simplicity (there may be some nuances around NIIT and state tax). As discussed, these aren't necessarily your marginal tax rates, which is what you really should use in the calculations; the marginal tax rates include impacts of deduction and credit phase-outs and phase-ins, etc.

Fund: SEC CmpdSEC TEY CmpdTEY ATY CmpdATY
VUSXX (Treasury MM): 2.32% 2.35% 2.71% 2.75% 1.49% 1.50%
This is much appreciated, but I have to admit I don't know how you got from SEC of 2.32% to TEY of 2.71% with VUSXX! As an example, could you show me the calc for just this single case? The TEY and the CmpdTEY?

Edit: Sorry! Figured out the calculation from SEC to TEY so no need on that!

But on the compounding how do I do that? Is it compounded daily?
Last edited by keyfort on Wed Jun 12, 2019 3:38 pm, edited 1 time in total.

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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Wed Jun 12, 2019 3:31 pm

keyfort wrote:
Wed Jun 12, 2019 3:22 pm
However, I am quite confused about tax treatment of VUSXX and especially VMFXX. I've read that VMFXX has a partial tax exemption depending on the underlying investments, and that to determine the tax in your specific case, you have to read some documents released by Vanguard, possibly after the tax year is up (not sure on this last bit). Anyway, unless a simple 1099-DIV is produced with the tax exemption taken into account for fed and state, this sounds like one hell of a headache!

I'm assuming that VUSXX is simply tax exempt at the state level entirely but pays federal tax. If so, why doesn't Vanguard put this fund in its list of tax exempt funds?!
The tax exemption is based on the percentage of income from US government obligations (USGO), and in CA, at least 50% of income must be from USGO.

VUSXX was 100% USGO income in 2018, and I expect it to be the same in 2019. So this one is easy.

VMFXX was 77.79% USGO income in 2018, so I use 78% as an estimate in calculating TEY/ATY. So I estimate we'll pay state income tax on about 22% of the income.

The 1099-DIV shows only the income. Tax software asks you how much of the income was exempt from state tax. For VUSXX I entered 100%, and for VMFXX I entered 77.79%.

Vanguard only lists funds that are exempt from federal income tax as tax-exempt funds. They may also be exempt from state income tax if the fund is state specific.

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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Wed Jun 12, 2019 4:42 pm

Thanks Kevin for the great info. I've been keeping part of our emergency fund (currently $13k) in a CapitalOne 360 Money Market, paying 2.0%. My spouse and I keep healthy buffers (~$50k total) in our checking accounts, and I think of the EF as a tiered structure between checking, the MMA, muni bonds in VCADX (~$65k), blending into taxable stock mutual funds (~$170k with a basis of ~$160k). Our marginal tax rates this year will be 24% fed, 9.3% CA, 3.8% NIIT, and no phase-outs I'm aware of. I've known the CapitalOne account doesn't have the highest rate, but they offered a nice sign-up bonus and offer periodic bonuses for moving in new money. You're making me think I should move the $13k into VMFXX. I'd rather not put >$50k into a money market so that rules out VUSXX. Other than losing FDIC insurance are there any issues with a money market fund like VMFXX compared to an MMA that would make this not a good idea? Edit: for this low "tier" of our EF I'd prefer not to take the liquidity hit of a CD.

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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Wed Jun 12, 2019 6:59 pm

keyfort wrote:
Wed Jun 12, 2019 3:30 pm
Kevin M wrote:
Wed Jun 12, 2019 11:35 am
Here are some numbers that take the 3.8% NIIT into account, just adding that to the federal income tax rate of 32% for simplicity (there may be some nuances around NIIT and state tax). As discussed, these aren't necessarily your marginal tax rates, which is what you really should use in the calculations; the marginal tax rates include impacts of deduction and credit phase-outs and phase-ins, etc.

Fund: SEC CmpdSEC TEY CmpdTEY ATY CmpdATY
VUSXX (Treasury MM): 2.32% 2.35% 2.71% 2.75% 1.49% 1.50%
This is much appreciated, but I have to admit I don't know how you got from SEC of 2.32% to TEY of 2.71% with VUSXX! As an example, could you show me the calc for just this single case? The TEY and the CmpdTEY?

Edit: Sorry! Figured out the calculation from SEC to TEY so no need on that!

But on the compounding how do I do that? Is it compounded daily?
Glad you figured out the TEY calculation. I posted this some time ago to provide a reference for and discussion of calculating TEY: Taxable Equivalent Yield (TEY)

Yes, interest compounds daily for money market funds. They actually show the compound yield on their websites (at least Vanguard and Fidelity do).

The compound yield is determined by using a standard finance formula, which is the same formula used to compute APY from rate:

APY/CY = (1 + r/n) ^ n - 1

where r is the rate and n is the number of compounding periods in a year. So for daily compounding:

APY/CY = (1 + r/365)^365 - 1

You can also calculate APY/CY with the spreadsheet EFFECT function:

EFFECT(nominal_rate, periods_per_year) = EFFECT(r, 365).

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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Wed Jun 12, 2019 7:36 pm

fyre4ce wrote:
Wed Jun 12, 2019 4:42 pm
Thanks Kevin for the great info. I've been keeping part of our emergency fund (currently $13k) in a CapitalOne 360 Money Market, paying 2.0%.

I have two bank accounts with an APY of 2.50%, at least one guaranteed through the end of the year. A quick peek at DepositAccounts.com shows other savings accounts at 2.50% APY (or even a smidge more). So even if you want the FDIC insurance, you can do much better than 2.0%. Even Ally pays 2.2%.

I'm not currently using the bank accounts, other than any minimums required to keep them open, as money market yields became more competitive since I opened the accounts. However, since the market is forecasting falling short-term Treasury yields, I could end up using the banks in preference to VUSXX before the end of the year.
My spouse and I keep healthy buffers (~$50k total) in our checking accounts, <snip>
Earning what rate of interest? I hope not 0%. I was using a Vanguard Advantage Account for checking until recently, and so was able to use VMFXX as my checking account, and do a monthly transfer from VUSXX into VMFXX to cover that month's bills, typically $5K or less. Unfortunately Vanguard is discontinuing VAAs at the end of July, so I'm switching over to Fidelity for cash management. Their funds aren't as competitive due to much higher expense ratios, but SEC yield on the core fund I'm using, SPAXX, is 2.02%, which is a compound TEY of 2.18%, so higher than your savings account.

If I wanted to earn a few pennies more, I could keep the cash in FDLXX (Treasury only fund), and earn compound TEY of 2.26%, and Fidelity would pull from this fund to cover debits (one advantage of Fidelity over Vanguard or Schwab).

The quoted TEYs are for me--they would be slightly higher for you, since your marginal state tax rate is higher than mine.

I keep my "healthy buffer" in VUSXX. I don't see why I'd keep that in a checking account earning less, when it only takes a few minutes each month to transfer enough over to Fidelity to cover the month's bills.
<snip> and I think of the EF as a tiered structure between checking, the MMA, muni bonds in VCADX (~$65k), blending into taxable stock mutual funds (~$170k with a basis of ~$160k). Our marginal tax rates this year will be 24% fed, 9.3% CA, 3.8% NIIT, and no phase-outs I'm aware of. I've known the CapitalOne account doesn't have the highest rate, but they offered a nice sign-up bonus and offer periodic bonuses for moving in new money.
Bonuses are nice, but if I go for a bonus, I just go for the bonus, and don't stick around with much cash after that if the rates are not competitive. I guess they really offer the bonuses for people who do. I got a nice bonus for putting $50K into a Capital One 360 account for a few months a couple of years ago, but haven't had anything there since.

If the "periodic bonuses" give you an effective rate that is higher than the competition, then that's great.
You're making me think I should move the $13k into VMFXX. I'd rather not put >$50k into a money market so that rules out VUSXX. Other than losing FDIC insurance are there any issues with a money market fund like VMFXX compared to an MMA that would make this not a good idea? Edit: for this low "tier" of our EF I'd prefer not to take the liquidity hit of a CD.
Why don't you want to put $50K into a money market fund? I'd much rather have $50K in a VUSXX fund earning 2.70% compound TEY (at your tax rates) than in a checking account earning nothing. The fund is 100% Treasuries, so I'd say essentially as safe as having FDIC insurance.

Also, you can always put $50K into VUSXX just to get it open, and then draw it down to whatever level you're comfortable with. You don't need to keep $50K in the fund to keep it open. I've had mine as low as a few dollars (for the week or so I moved to VCTXX, for example).

The main benefit of VMFXX is that it has a very competitive yield for a core/sweep fund, especially in a taxable account with state income tax, so I can be lazier about moving it to VUSXX in taxable, or Prime MM in IRAs, without sacrificing too much earnings.

Given that almost 80% of VMFXX income is from US government obligations, I don't see much risk in it compared to an FDIC-insured account. The low risk is one of the reasons Vanguard uses it for the sweep fund.

I don't think twice about using a high quality MM fund instead of an FDIC-insured savings account in the current economic climate. If we went into another late-2008 scenario, or something similar, I might be more cautious, but I was using Prime Money Market back then, and that's the last thing I was losing sleep over.

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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Wed Jun 12, 2019 8:12 pm

Kevin M wrote:
Wed Jun 12, 2019 7:36 pm
I have two bank accounts with an APY of 2.50%, at least one guaranteed through the end of the year. A quick peek at DepositAccounts.com shows other savings accounts at 2.50% APY (or even a smidge more). So even if you want the FDIC insurance, you can do much better than 2.0%. Even Ally pays 2.2%.

I'm not currently using the bank accounts, other than any minimums required to keep them open, as money market yields became more competitive since I opened the accounts. However, since the market is forecasting falling short-term Treasury yields, I could end up using the banks in preference to VUSXX before the end of the year.
The last bonus was $50 about 6 months ago, so $50/$13,000 * 2 ~= 0.77%; 2.77% is better than the best market rates. Of course, no guarantee this will continue, so it's time to look elsewhere; this post made me think about it.
Kevin M wrote:
Wed Jun 12, 2019 7:36 pm
Earning what rate of interest? I hope not 0%. I was using a Vanguard Advantage Account for checking until recently, and so was able to use VMFXX as my checking account, and do a monthly transfer from VUSXX into VMFXX to cover that month's bills, typically $5K or less. Unfortunately Vanguard is discontinuing VAAs at the end of July, so I'm switching over to Fidelity for cash management. Their funds aren't as competitive due to much higher expense ratios, but SEC yield on the core fund I'm using, SPAXX, is 2.02%, which is a compound TEY of 2.18%, so higher than your savings account.

If I wanted to earn a few pennies more, I could keep the cash in FDLXX (Treasury only fund), and earn compound TEY of 2.26%, and Fidelity would pull from this fund to cover debits (one advantage of Fidelity over Vanguard or Schwab).

The quoted TEYs are for me--they would be slightly higher for you, since your marginal state tax rate is higher than mine.

I keep my "healthy buffer" in VUSXX. I don't see why I'd keep that in a checking account earning less, when it only takes a few minutes each month to transfer enough over to Fidelity to cover the month's bills.
$20k in a Schwab Investor Checking account, which is our main joint account. Earns 0.4%. This is about 2 months of float.
$20k in my spouse's BofA business checking account. Earns 0, but her monthly payroll and 401k auto-payments are close to $15k, so $20k is barely a month's of float. Neither of us are happy with BofA and would be OK switching, but I don't think any business checking accounts pay interest on this size balance.
$5k in each of our personal checking accounts with Chase and BofA. When we got married we decided to keep our personal accounts, so we'd each have an account in our name only, and for a bit of extra EF. We each have our direct deposit set up to automatically deposit the minimum each month to avoid fees. We've been married a year and no marital/financial problems that would create the need for purely individual accounts, although currently these are the only places we can deposit physical cash. Could close just one.
Kevin M wrote:
Wed Jun 12, 2019 7:36 pm
Why don't you want to put $50K into a money market fund? I'd much rather have $50K in a VUSXX fund earning 2.70% compound TEY (at your tax rates) than in a checking account earning nothing. The fund is 100% Treasuries, so I'd say essentially as safe as having FDIC insurance.

Also, you can always put $50K into VUSXX just to get it open, and then draw it down to whatever level you're comfortable with. You don't need to keep $50K in the fund to keep it open. I've had mine as low as a few dollars (for the week or so I moved to VCTXX, for example).
I said I don't want $50k in a MM because I'd prefer to be earning a higher return, a la the muni bond fund, and I think we have enough cash-equivalent in the EF as-is. If there were a way to reduce checking balances and move some of this allocation to MM, then great, but I haven't seen a way to do that yet that doesn't increase the risk of bouncing checks, or require more frequent transfers. We're both busy and my spouse doesn't like tinkering, so there's some value for us in set-and-forget and having a nice cushion. If there's a way to get VMFXX-like returns AND have the cushion of a checking float, I'd be interested.

I didn't know you only need $50k to open and can draw down. I'll keep this in mind next time I make a transfer of that size.

So, overall, what would you suggest? It sounds like you'd prefer to swap the Fidelity CMA for the Schwab Checking, and ditch at least one of the individual checking accounts. Looks like we could earn an extra $25k*2.12% - $20k*0.4% = $450 per year (pre-tax). Anything else?

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Kevin M
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Re: Good Investments for 2-5 Years in Taxable

Post by Kevin M » Thu Jun 13, 2019 1:41 pm

fyre4ce wrote:
Wed Jun 12, 2019 8:12 pm
I said I don't want $50k in a MM because I'd prefer to be earning a higher return, a la the muni bond fund, and I think we have enough cash-equivalent in the EF as-is.
OK, I thought you meant you had an aversion to keeping $50K in a MM fund as an alternative to keeping so much cash earning so much less elsewhere.

Keep in mind though that at your tax rates, TEY SEC yield for VCADX is only 2.72% with a duration of 5 years, while compound TEY for VUSXX for you is 2.70% with a duration of 0 years. So you're getting paid nothing to take significantly more term risk.

Of course the flip side of shortening duration is the reinvestment risk, and the market does seem to be signaling an expectation of falling short-term yields.

On the flip-flip side, a couple of term premium models indicate a negative term premium, which indicates that rolling short-term Treasuries is expected to earn more than holding longer-term Treasuries to maturity. The latest reading from the ACM model is a term premium of -0.8% (that's negative 0.8%) for 5-year maturity Treasuries.

I continue to hold my VCADX to hedge the reinvestment risk, but it, along with my other intermediate-term bond funds, is a pretty small percentage of my fixed income.
If there were a way to reduce checking balances and move some of this allocation to MM, then great, but I haven't seen a way to do that yet that doesn't increase the risk of bouncing checks, or require more frequent transfers. We're both busy and my spouse doesn't like tinkering, so there's some value for us in set-and-forget and having a nice cushion. If there's a way to get VMFXX-like returns AND have the cushion of a checking float, I'd be interested.
Using a Fidelity brokerage account for checking with core fund SPAXX is an easy way to accomplish this. You don't get quite VMFXX TEY, but you do get 2.21% compound TEY, and you can use FDLXX as the overdraft MM fund to get 2.31% TEY (at your tax rates).

If you want ATM withdrawals with unlimited fee reimbursements, you can add a Fidelity CMA for that, and set up the brokerage account as the funding account to cover overdrafts. An alternative is to use just a CMA, and manually exchange from the core fund to FDLXX whenever your paychecks or whatever hit the core fund, but of course that's an extra step. Either way, you can keep $0 in the CMA core account, which doesn't earn much.

The nice thing about Fidelity is that you can set up a hierarchy of accounts and money market funds, and even margin, to cover overdrafts, and it's all automatic and free.

Another alternative is to use a reward checking account (RCA), on which you could earn up to 4% on up to $30K: https://www.depositaccounts.com/checkin ... ounts.html (Orion is the one I'm referring to), but this requires doing 8 debit card purchases per month with their card, which might be too much of a hassle for you. I use my RCA as a high-yield savings account, and just keep that balance right at the balance cap, which would be a hassle if I used it as a checking account (I've done that in the past).
So, overall, what would you suggest? It sounds like you'd prefer to swap the Fidelity CMA for the Schwab Checking, and ditch at least one of the individual checking accounts. Looks like we could earn an extra $25k*2.12% - $20k*0.4% = $450 per year (pre-tax). Anything else?
If it were me, I'd ditch all of the checking accounts earning 0.4% or less, use Fidelity brokerage and/or CMA accounts for all checking account needs, and put whatever you don't need for your monthly float, with plenty of buffer of course, into VUSXX or VMFXX. You can set up an automatic withdrawal at Vanguard to transfer to Fidelity once per month, which is what my wife is doing.

I'm more of an optimizer than she is, so I do the monthly transfers manually, transferring enough to cover bills plus a buffer for unexpected expenses or mistakes. The brokerage account is a margin account, and I have $10K of 6-month Treasury Bills on auto-roll to provide plenty of margin if I really screw up and overdraft my cash. I can cover the margin balance immediately by doing a pull transfer from an external account (won't be able to use Vanguard for that though after July, since my account will stop functioning as a checking account then), or I could just sell one or more T Bills.

There's a long thread about using Fidelity as a one-stop shop. I'm not doing that, but that thread triggered me to start using Fidelity for cash management when the discontinuance of VAA was announced. I already had a few accounts at Fidelity, so opening the new accounts and getting all the connections set up only took a few minutes. Here's a link to a recent post of mine in that thread where I tried to succinctly summarize the alternatives for using brokerage and/or CMA: viewtopic.php?p=4591173#p4590902.

Kevin
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fyre4ce
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Re: Good Investments for 2-5 Years in Taxable

Post by fyre4ce » Thu Jun 13, 2019 6:51 pm

Kevin M wrote:
Thu Jun 13, 2019 1:41 pm
<snip>

Kevin
Thanks, again, for the ton of info. I don't want to hijack this thread and turn it into a discussion of checking alternatives. I may post something else in the Personal Finance forum, after I've had a chance to read the other threads you mentioned.

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