Reorganizing taxable account for home down payment

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Biodex
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Joined: Sat Jun 15, 2019 9:13 pm

Reorganizing taxable account for home down payment

Post by Biodex » Sun Jun 16, 2019 1:10 pm

Hi all,

First time poster here. I've been scanning the message board for similar topics and looked at the "Asking portfolio questions" thread to get a sense of what info to include here. I'm fairly new to personal investing, but have come to enjoy it. I am hoping to learn from the wisdom of the message board.

Here's my situation:
I've recently moved all of my and my spouses retirement accounts and joint taxable account to Fidelity. Previously, we had a financial advisor who had good intentions, but the funds that we were invested in were too expensive and the management fees didn't seem worth it. I've been able to reshuffle our Roth and Roth 401k easily because there are no tax decisions to make with those accounts. However, I'm having a much harder time with our taxable account.

I would like to use our taxable account to fund our home down payment. Our time horizon is 3-5 years and the goal of the account is ~80-100k. The time horizon is a bit squishy and depends heavily on whether we stay in the Northeast (expensive!) or head to the Midwest (much cheaper). I would like to be pretty conservative with the asset allocation (~70% income, ~30% growth), but I don't know what types of funds/ETFs I should use for the account. Should it be mostly Muni bonds and some equity ETFs (for their tax efficiency) or should I put some of it into things like CDs and total stock market funds? I want to avoid being highly taxed when I sell and buy new funds for the account, but even after reading the tax efficient fund placement article multiple times, I'm still not sure how to apply it to my situation.

Here's the account as it stands, and we have another 25k that we have not yet invested. Mainly, I want to avoid a heavy tax burden when I sell the "SA" funds and avoid heavy taxes when I take the money out for our down payment.
Tax info: Filing jointly
Federal 22% (Might move up into the 24% bracket by the time the money is withdrawn in 3-5 years)
State, MA 5.1% (someone correct me if this is wrong)

Total in the Fidelity taxable brokerage account: 67k
21% SA U.S. Core Market Fund Select Class (SAALX) (0.68%)
2% SA International Small Company Fund Select Class (SACLX) (0.98%)
23% SA Global Fixed Income Fund Select Class (SAFLX) (0.52%)
9% SA U.S. Small Company Fund Select Class (SASLX) (0.93%)
9% SA International Value Fund Select Class (SATLX) (0.9%)
20% SA U.S. Fixed Income Fund Select Class (SAULX) (0.43%)
12% SA U.S. Value Fund Select Class (SAVLX) (0.74%)
3% Fidelity Total Market Index Fund (FKSAX) (0.015%)

I've also been in contact with Fidelity who proposed the following portfolio, but it seems overly complicated and isn't really the asset allocation I want. They offered to do tax loss harvesting and manage the account, but it would cost 1.38% per year. Would it be worth it given that I'm not interested in keeping close tabs on the nitty gritty tax details of my portfolio?

Domestic Stock 35.0%
17.5% iShares Edge MSCI Min Vol USA ETF
3.0% JPMorgan US Large Cap Core Plus I
3.0% Fidelity Stock Selector All Cap Fund
2.8% iShares Edge MSCI USA Quality Factor ETF
1.6% iShares Edge MSCI USA Momentum Fctr ETF
1.2% LSV Value Equity Investor
1.2% Fidelity Value Discovery Fund
1.1% iShares Core S&P 500 ETF
1.1% iShares Core S&P Mid-Cap ETF
0.9% Loomis Sayles Growth A
0.9% Fidelity Growth Company Fund
0.9% iShares Core S&P Small-Cap ETF

Foreign Stock 15.0%
11.1% iShares Edge MSCI Min Vol EAFE ETF
3.9% iShares Edge MSCI Min Vol Emerg Mkts ETF

Bonds 43.5%
12.5% iShares US Treasury Bond ETF
10.0% Fidelity SAI Municipal Income Fund
9.0% iShares 7-10 Year Treasury Bond ETF
9.0% T. Rowe Price Tax-Free Income Adv
3.0% PIMCO Real Return Instl

Short-Term 6.5%
2.0% Fidelity Limited Term Municipal Income Fund
2.0% Strategic Advisers Tax-Sensitive Short Duration Fund
1.5% PIMCO TRENDS Managed Futures Strat Instl
1.0% Fidelity Government Cash Reserves

Thank you all in advance for your input!

Wakefield1
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Re: Reorganizing taxable account for home down payment

Post by Wakefield1 » Sun Jun 16, 2019 3:45 pm

It will be interesting to see some informed responses to this question.
I suppose that with the 3+ year time horizon,simple money market funds and credit union "no penalty" CDs are too conservative?
Short or mid bond funds?
As the time frame is less than 7 years (to when the money is needed) should stock funds be minimized/avoided?

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grabiner
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Re: Reorganizing taxable account for home down payment

Post by grabiner » Sun Jun 16, 2019 4:05 pm

Welcome to the forum!

I don't like the advisor's proposed portfolio, which is too complex and has several expensive funds. You can get a fine portfolio at Fidelity paying less than 0.1% rather than Fidelity's 1.38%, with just three funds: Fidelity Total Stock Market Index, Fidelity Total International Index, and Fidelity Total Bond Market Index. (In a taxable account, I would slightly prefer the iShares ETFs, which trade commission-free at Fidelity, for the taxable indexes instead; non-Vanguard index funds are more likely to distribute taxable gains than ETFs are.). For your home down payment, if you don't use a bank account, a good choice would be Fidelity Short-Term Bond Index Fund at 0.03% expenses.

It is probably worth getting rid of the SA funds. Yes, you'll pay a capital-gains tax, but as long as you keep the funds, you are losing 0.5% per year to higher expenses, and probably 0.8% more per year to taxes (since you pay 20.1% tax on any capital gains the funds distrbute), so you will catch up quickly. The two lowest-cost funds are bond funds, which can be sold without much of a capital gain.

In a 22% tax bracket, you probably don't want a muni fund, particularly because Fidelity's muni funds are more expensive than its taxable bond funds, and even the short-term muni ETFs you can buy are more expensive. (Vanguard has the only low-cost MA fund I know of, and even if you like that fund, it's too long a duration for your home down payment.) In addition, the bond index funds above, which hold a lot of Treasuries, give you some MA tax benefit; you can exclude the portion of the interest from Treasuries on your MA tax return.
Wiki David Grabiner

buhlaxtus
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Re: Reorganizing taxable account for home down payment

Post by buhlaxtus » Sun Jun 16, 2019 4:32 pm

The proposed Fidelity portfolio is ridiculous for using 20 expensive funds where one or two cheap ones would do. And the use of a 50% stock allocation for a 3-5 year time frame is very aggressive.

Even at your suggested 30% stocks you risk having to take a ~10% haircut at house-buying time or reschedule the purchase. Why do you consider this "pretty conservative"? Maybe it is right for you, but also maybe not.

If I knew I had this purchase coming on this schedule I would most likely use a money market fund, or half cash + half short term bond fund. In fact in the past I have just used a savings account for this exact purpose, though was back when you could get "high interest" (5%).

Your current portfolio is already about 60% bonds+cash so you don't need to sell the whole thing. But it is in some expensive funds - how much capital gain are you looking at if you just sell it all right now in order to simplify? What if you just sold all the stocks? Either might be reasonable.

Topic Author
Biodex
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Re: Reorganizing taxable account for home down payment

Post by Biodex » Sun Jun 16, 2019 5:18 pm

grabiner,
I agree that the Fidelity proposed portfolio is too complex. After reviewing the total gain/loss column for each of these funds, it looks like I haven't even made that much on them since I opened the account. Basically, all of the funds have lost money except SAALX, and the collective gain from the account is only ~1k. Thus, the capital gains from selling would be fairly low, making it worthwhile to get rid of all of the SA funds and reinvest the money in other funds/ETFs. I can post the gain/loss from each fund if it's important. Why choose a short term bond fund versus an intermediate or a total US bond index fund?

buhlaxtus,
I'm going to reconsider the asset allocation to be more conservative. I don't have any high interest savings accounts, and at minimum I would like to keep up with inflation.

Thanks for the advice!

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grabiner
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Re: Reorganizing taxable account for home down payment

Post by grabiner » Sun Jun 16, 2019 6:15 pm

Biodex wrote:
Sun Jun 16, 2019 5:18 pm
I can post the gain/loss from each fund if it's important.
It's only important if there is one fund with such a large gain that you want to hold it forever rather than selling it now, which is unlikely for these funds.
Why choose a short term bond fund versus an intermediate or a total US bond index fund?
For the money you intend to use for the home down payment, you want a shorter duration. If interest rates rise, a total bond market index will lose value, and to make matters worse, your mortgage rate will go up and thus it will cost you more to buy the same house. If you buy a short-term bond fund, you'll make up the loss from any rate increase in two or three years.

An intermediate-term fund is fine for your retirement savings, because you don't care about short-term risk there.
Wiki David Grabiner

Topic Author
Biodex
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Re: Reorganizing taxable account for home down payment

Post by Biodex » Mon Jun 17, 2019 4:19 pm

Does anyone have recommendations for the equity part of the portfolio?

How large is the difference in tax liability with a total stock market fund versus a total stock market ETF, assuming they perform the same?

nix4me
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Re: Reorganizing taxable account for home down payment

Post by nix4me » Mon Jun 17, 2019 6:12 pm

You have been suckered into paying high fees.

You need 2 funds at Fidelity in my opinion:
FZROX - ER=0 - Total Stock Market - All investment money goes here.
SPRXX - Federal Money Market - All cash goes here, for things like home downpayment.

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grabiner
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Re: Reorganizing taxable account for home down payment

Post by grabiner » Mon Jun 17, 2019 6:16 pm

Biodex wrote:
Mon Jun 17, 2019 4:19 pm
How large is the difference in tax liability with a total stock market fund versus a total stock market ETF, assuming they perform the same?
Zero with Vanguard (where they are share classes of the same fund), and not much even with Fidelity because total-market funds don't sell much stock. In the last few years, Fidelity's fund has distributed about 0.5% of its value in capital gains, mostly long-term, which would be 0.08% extra tax cost in most tax brackets.
Wiki David Grabiner

CommitmentDevice
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Re: Reorganizing taxable account for home down payment

Post by CommitmentDevice » Mon Jun 17, 2019 6:24 pm

For a down payment in 3-5 years, I would go very safe. A bond fund or high interest savings account like Ally's.
For long term investment, I'd do a lazy three fund portfolio based off of examples in the wiki.

Topic Author
Biodex
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Re: Reorganizing taxable account for home down payment

Post by Biodex » Sun Jun 23, 2019 6:04 am

Based on the discussions here, this is my proposed breakdown and rational for what is now ~95K (my partner and I contributed another 25k) in this taxable account:

70% Fidelity money market SPRXX (0.42%)
20% Fidelity total U.S. bond index FXNAX (0.025%)
10% Fidelity total market index FSKAX (0.015%)

I didn't realize that money markets were getting such good yields (~2%)! This essentially makes short term bond funds obsolete due to the 3-5 year time horizon for this account, even though the fees for SPRXX are higher (0.42%). I noticed that fund like SPRXX had very very low return up until about two years ago. What are the chances that this yield will decrease back to ~2010 levels (~0.1%)? I suppose if that did happen, I could move the money to a bond fund or CD.

The volatility of FXNAX appear to be pretty low over the last decade, but can someone comment on what would happen if interest rates rise significantly? Interest rates have been rock bottom for about ten years so I'm curious what would happen if they start to rise more rapidly. I looked on Morningstar and in 1996 there was a ~7% dip, but that seems to be as bad as it gets over the past 30 years.

For FSKAX, I'm willing to take a little risk given that in a worst case scenario, another 2008, I would lose 5k on 100k if stocks dropped 50%.

We could scrape together 100k and invest in Fidelity's prime money market fund (FZDXX), but the only difference appears to be the expense ratio (0.3%), and that won't be much of a difference on 100k ($300 vs $420 in fees/year for FZDXX vs SPRXX).

Any thoughts on this breakdown or flaws in logic would be much appreciated.

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grabiner
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Re: Reorganizing taxable account for home down payment

Post by grabiner » Sun Jun 23, 2019 2:20 pm

Biodex wrote:
Sun Jun 23, 2019 6:04 am
Based on the discussions here, this is my proposed breakdown and rational for what is now ~95K (my partner and I contributed another 25k) in this taxable account:

70% Fidelity money market SPRXX (0.42%)
20% Fidelity total U.S. bond index FXNAX (0.025%)
10% Fidelity total market index FSKAX (0.015%)

I didn't realize that money markets were getting such good yields (~2%)! This essentially makes short term bond funds obsolete due to the 3-5 year time horizon for this account, even though the fees for SPRXX are higher (0.42%). I noticed that fund like SPRXX had very very low return up until about two years ago. What are the chances that this yield will decrease back to ~2010 levels (~0.1%)? I suppose if that did happen, I could move the money to a bond fund or CD.
It's not likely to decrease to that level, but investors do expect it to decrease, precisely because of your logic. Investors who buy three-year Treasury bonds have the option instead of buying short-term Treasury bills and renewing them as they mature for three years. They would only buy the three-year bonds. taking a bit of interest-rate risk) if they expect higher returns from that strategy. Therefore, since three-year yields are less than short-term yields, the investors buying three-year bonds must expect short-term rates to decline.

And for you, the difference between 0.42% expenses on the money-market fund and 0.03% on the short-term bond index fund is an uncompensated loss; if it does turn out that short-term bonds underperform the money markets by 0.30% per year over the next three years, you'll still come out ahead with the short-term bond fund.
The volatility of FXNAX appear to be pretty low over the last decade, but can someone comment on what would happen if interest rates rise significantly?
The fund has a duration of six years, which means that if the rates on its bonds rise by 1%, the bond prices would drop by 6%. (Note the "on its bonds"; intermediate-term rates are less volatile than the short-term rates which the Fed targets.)

The other interpretation of duration is the time to catch up to a rate increase. If rates rise by 1%, the fund will lose 6% of its value, but it will gain back 1% per year from the higher rates, so after six years, you will have earned the current yield. Thus, by using a six-year fund for a three-year need, you take some risk of losing money if rates rise.

However, what matters is the overall duration of your portfolio; if you have half in a six-year fund and half in a money-market fund, your overall duration is three years, and any loss from rising rates on the six-year fund is cancelled by a gain from rising rates on the money-market fund if all rates move together.
Wiki David Grabiner

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