What if there's not enough room in tax-advantaged accounts?

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KTemple
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Joined: Fri May 13, 2022 9:42 am

What if there's not enough room in tax-advantaged accounts?

Post by KTemple »

My spouse and I (in our 40s) have retirement accounts through work (a TSP and a 401(k)) and I have a rollover IRA from a previous job. We both have Roth IRAs. We have a 529 plan for each of our kids. Everything is great. We have W2 jobs and we have our assets allocated in a basic core-four type portfolio (30% bonds). We have not, until now, had any brokerage accounts outside those retirement accounts.

Now we're set to receive a large-ish lump sum of money. We read that we should keep REITs and bonds within tax-advantaged accounts, which is great, but what do we do if converting everything in our TSP, 401(k), and IRA wouldn't even get close to covering the preferred allocation? Do we park the REIT allocation in the retirement accounts and convert the rest to bonds and then hold bonds in our regular brokerage accounts?

Recommendations for further reading are welcome. I'm apparently not searching the right terms.

Thank you!

ETA Portfolio Question Answers
Emergency funds: 6 months expenses in a HYSA

Debt: $20k car loans at 0.99%, $112k @ 6%

Tax Filing Status: Married Filing Jointly

Tax Rate: 24% Federal, 4.8% State

State of Residence: OK

Age: 45

Desired Asset allocation -: Obviously we're not here yet
38% U.S. stocks, 30% bonds, 25% international, 7% REIT


Approximate size of total current portfolio: Mid-six figures
We anticipate a lump sum of about $3 million

Current retirement assets

Taxable
0.33% stock from an ESPP (LHX)
0.48% stock from another ESPP (SAIC)

My Rollover IRA at Fidelity
4.25% Fidelity Government Money Market Fund (SPAXX) (0.42%) - this is my core position and I don't know why there's so much in here
0.56% Baird Core Plus Bond Fund Class Institutional (BCOIX) (0.30%)
40.61% Fidelity Freedom 2040 (FFFX) (0.75%)
12.29% Fidelity Total Market Index Fund (FSKAX) (0.01%)

My 401(k) at Vanguard
4.32% Target Retirement 2040 Trust Plus (Fund 1657) (0.055%)
0.34% Target Retirement 2050 Trust Plus (Fund 1659) (0.055%)

Husband's TSP
12% Government Securities (G Fund) (0.43%)
11% Common Stock Index (C Fund) (0.43%)
9% Small Cap Stock Index (S Fund) (0.059%)
7% International Stock Index (I Fund) (0.053%)

Husband's Roth at Fidelity - Just opened in December
0.07% Fidelity NASDAQ Composite Index FNCMX (0.29%)
0.05% Fidelity Extended Market Index FSMAX (0.04%)
0.07% Fidelity Large Cap Growth Index FSPGX (0.03%)

My Roth at Fidelity - Just opened in December
.19% Fidelity Total Market Index Fund (FSKAX) (0.01%)

(1) When we learned of the probability of this windfall, we decided we needed some financial education pretty quickly. We realized that we'd just sort of let our retirement accounts go on auto and drift a long way away from our desired asset allocation. We thought, hey, it'll be easy to rebalance/reallocate when we figure out what to do with the windfall. I am more confused than ever, but I'm learning. Thanks for having such great content on the forums and the wiki! I'm just trying to figure out how to do this without creating a real tax nightmare, especially if we start withdrawing part of this before we retire.

(2) This is MY inheritance so I'm going to have to go through a kind of double-rebalancing if that makes sense. We need to allocate and balance our common funds for our common goals, but I'm also going to have to keep the principal of the inheritance separated pending whatever the estate people tell me to do
Last edited by KTemple on Mon May 16, 2022 5:55 pm, edited 1 time in total.
tashnewbie
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Joined: Thu Apr 23, 2020 12:44 pm

Re: What if there's not enough room in tax-advantaged accounts?

Post by tashnewbie »

Welcome to the forum!

Can you provide your target asset allocation (stocks, bonds, REITs, etc.)?

What are the approximate percentages of your portfolio that are in each account?

What percentage will you be putting in taxable?
livesoft
Posts: 80237
Joined: Thu Mar 01, 2007 8:00 pm

Re: What if there's not enough room in tax-advantaged accounts?

Post by livesoft »

We build our desired Asset Allocation so that the Sum of the Individual Parts meets our Goals, but the asset allocations of each of the Individual Parts do not match. Example:

401(k) is 100% bonds; Traditional IRA is bonds and stock index funds; Roth IRA is 100% Total US Stock Market; Taxable is Total US Stock Market + Total Int' Stock Market.

Each account can hold different allocations of the same index funds, but not in the same ratios.

Are you expecting to hold the same ratios in every single one of your accounts? Don't do that.

Here's a link to Asking Portfolio Questions: https://www.bogleheads.org/wiki/Asking_ ... _questions
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ruralavalon
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Re: What if there's not enough room in tax-advantaged accounts?

Post by ruralavalon »

Welcome to the forum :) .

KTemple wrote: Fri May 13, 2022 2:07 pm My spouse and I (in our 40s) have retirement accounts through work (a TSP and a 401(k)) and I have a rollover IRA from a previous job. We both have Roth IRAs. We have a 529 plan for each of our kids. Everything is great. We have W2 jobs and we have our assets allocated in a basic core-four type portfolio (30% bonds). We have not, until now, had any brokerage accounts outside those retirement accounts.

Now we're set to receive a large-ish lump sum of money. We read that we should keep REITs and bonds within tax-advantaged accounts, which is great, but what do we do if converting everything in our TSP, 401(k), and IRA wouldn't even get close to covering the preferred allocation? Do we park the REIT allocation in the retirement accounts and convert the rest to bonds and then hold bonds in our regular brokerage accounts?

Recommendations for further reading are welcome. I'm apparently not searching the right terms.

Thank you!
Bond funds are not very tax-efficient, and REIT funds are very tax-INefficient, so it's ordinarily better to hold them in tax-advantaged accounts preferably traditional tax-deferred accounts.

Wiki article Tax-efficient fund placement.

A little more information may be helpful. Please see this format: Asking Portfolio Questions.

Do you have any debt? If so what types, amounts and interest rates? (Paying off higher interest debt can be a good "investment".)

What is your tax bracket, both federal and state? What state do you pay any State income taxes to? (If in a high tax bracket you can consider tax-exempt bond funds in a taxable account.)

Do you want to keep 30% in fixed income? What allocation do you want in REITs?

How large is the "large-ish lump sum of money"? You can consider some I savings bonds. (But there is an annual purchase limit of $10k person, so that's not very useful if the "large-ish lump sum of money" is very large.)

What funds are offered in the 401k? Please give fund names, tickers and expense ratios.

Which fund firm or brokerage is the rollover IRA with? Which fund firm or brokerage are the Roth IRAs with?

After you receive the "large-ish lump sum of money", what will the relative sizes of your accounts be (i.e. the percentage of total portfolio in each account)?
"Everything should be as simple as it is, but not simpler." - Albert Einstein | Wiki article link: Bogleheads® investment philosophy
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rob
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Re: What if there's not enough room in tax-advantaged accounts?

Post by rob »

Think of it as a continuum.... I'm assuming that your saying you cannot keep the same allocation and keep tax inefficient things only in existing tax deferred right? So you put the "worst" efficient parts of the allocation in tax deferred and then start compromising. Some things to look at.... Muni bonds either national or specific state, Short term bonds will kick off less tax trail than say REIT's, so if your alloc has a need for those, maybe do taxable for those rather than reit... and on and on. Give up the goal of a perfect plan and do the least worst you can based on relative tax efficiency :D btw - Nice problem to have but sorry for what must have happened to get here (inheritance).
| Rob | Its a dangerous business going out your front door. - J.R.R.Tolkien
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retiredjg
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Re: What if there's not enough room in tax-advantaged accounts?

Post by retiredjg »

Welcome to the forum. :happy

1. Consider lowering the allocation to REIT or completely eliminating the REIT. REIT stocks are included in the broad indexes. Holding extra REIT may be nice if you want it but it is not necessary and loses some of its (potential) benefit if it pushes bonds into taxable.

2. Put all your tax-deferred accounts into bonds.

3. The rest of your bonds will have to go into Roth and/or taxable. The kind of bonds you use in taxable depends on things we don't know (tax bracket, state you live in).

4. I Bonds in taxable can be a good choice but the amount you can buy per year is limited.
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grabiner
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Re: What if there's not enough room in tax-advantaged accounts?

Post by grabiner »

Starting in June, the TSP will have a mutual fund window, but at a cost of $178.75 per year if you make one trade per year, and limited to 25% of your TSP balance.

Thus, if you have $400K in your TSP, you can hold one mutual fund worth $100K, and pay an extra 0.18% expenses. If you actually reach the point at which you need to do this for something you cannot hold in taxable, it might be worthwhile. But until then, I would avoid the brokerage window.

The more important issue is to hold as much as possible in bonds in the TSP, since the TSP G fund is better than anything available at retail, while the other TSP options have comparable retail funds.
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shess
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Re: What if there's not enough room in tax-advantaged accounts?

Post by shess »

KTemple wrote: Fri May 13, 2022 2:07 pm My spouse and I (in our 40s) have retirement accounts through work (a TSP and a 401(k)) and I have a rollover IRA from a previous job. We both have Roth IRAs. We have a 529 plan for each of our kids. Everything is great. We have W2 jobs and we have our assets allocated in a basic core-four type portfolio (30% bonds). We have not, until now, had any brokerage accounts outside those retirement accounts.

Now we're set to receive a large-ish lump sum of money. We read that we should keep REITs and bonds within tax-advantaged accounts, which is great, but what do we do if converting everything in our TSP, 401(k), and IRA wouldn't even get close to covering the preferred allocation? Do we park the REIT allocation in the retirement accounts and convert the rest to bonds and then hold bonds in our regular brokerage accounts?
You'll have to run the following opinion through your real numbers, but I'll make some up for sake of argument.

Say you were on track to a $5M retirement at 60, so right now your tax-advantaged accounts are around $2M. Also posit that you have a 45/25/25/5 portfolio in US/INTL/BOND/REIT. Suddenly, you get a windfall of $8M, which means your $2M tax-advantaged portfolio will no longer suffice to cover (25+5)% of your $10M portfolio!

IMHO, in this case you can probably just safely put the tax-advantaged accounts in bonds and REITs ($1.666M and $333k), and the rest in taxable in US broad-market and INTL broad-market indices (5.1M and $2.9M), and ignore the fact that you've departed a bit from your intended AA. My reasoning is that before, you were on track to your eventual outcome. Now, unless you stop working or something, you are STILL on track to your previous outcome, you just added a windfall. The added windfall doesn't detract from your previous portfolio. If your windfall was of an amount which precisely fit your tax-advantaged accounts to the bond+REIT portion of your AA, then the new layout is clearly an improvement over that, right?

Anyhow, I guess where I'm going is that the AA is a tool you use towards a set of goals. With the numbers I describe above, you've already exceeded those goals, so it's plausible that the AA is no longer the right fit, or that you should adjust your goals. Obviously your numbers are different, but I still think it's reasonable to think through the ramifications of this approach.

I will note that if all the numbers were 1/10 as big, my opinion on this would change. $10M is a size where you can both consider taking a bit more risk if you intend to keep working and stuff, but also can consider whether to go hard towards a conservative portfolio if you want to retire early. Whereas $1M is a portfolio size which is good to have in your 40's, but is unlikely to be sufficient retirement for most people.

Also consider things like paying down your mortgage, pulling forward home remodelling, things like that. Paying down your mortgage means you'll shift current excess into long-term excess cashflow over the remaining life of your mortgage. Pulling forward a remodel means you'll get to enjoy it earlier rather than waiting. I'm not saying to waste the money, just that you are acquiring money for a purpose, not just for the sake of acquiring money.

---

It would not bother me a lot to carry bonds in my taxable accounts. Their yields aren't THAT high, and their tax treatment isn't complicated. If rates go up to make yields annoying to carry, their value will go down so you can sell them for a loss. REITs, meanwhile, I would do a lot to avoid those in taxable, simply because I don't want to deal with things like capital gains distributions and return of capital distributions. Those aren't the end of the world, I just don't care to go there.
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