A Case for Bonds in Taxable?

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aristotelian
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A Case for Bonds in Taxable?

Post by aristotelian » Wed Jan 03, 2018 10:12 am

Conventional wisdom says to but bonds in tax deferred since bond dividends are taxed as ordinary income at your marginal rate. At the same time, put stocks in Roth in order to maximize the value of stock gains. I get that. But let's say I am planning to retire early and wait until 70 to claim Social Security. Therefore, I will have a long window between early retirement and claiming social security when I expect to have low taxable income, thus enabling SEPP withdrawals and/or Roth conversions at low rates. In fact, it is possible that I may be able to pay zero tax based on threads like this one:

viewtopic.php?t=87471

If that is the case, doesn't my 401k in effect become another Roth account, even more valuable because the contributions are pretax? If that is true, shouldn't I also prioritize stock in my 401k and do everything possible to keep bonds in taxable?

Does this thinking seem sound?

If muni bonds make sense as part of this strategy, how much is too much?

I am more interested in the general approach, but if it helps some relevant particulars to my situation: I am in the now-22% tax bracket. I already have a small allocation of I Bonds and Muni Bonds (VOHIX). The bulk of my bond/fixed income allocation is in TIAA Traditional and Vanguard Wellesley in my employer plan. I am locked into the Traditional allocation for now but thinking about putting new money in the employer plan in stock.

mega317
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Re: A Case for Bonds in Taxable?

Post by mega317 » Wed Jan 03, 2018 4:30 pm

I came here from your link in another thread. I don't know the answer and this is basically a bump.

But I remember from the discussion around the WCI article (Bonds go in taxable!) that it's probably fine now when rates are low, and the math may be very different when bond yields are higher.

One critique off the top of my head is that if you're doing Roth conversions to the top of the 12% bracket, you have limited space even if you're doing conversions for 15-20 years.

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Re: A Case for Bonds in Taxable?

Post by aristotelian » Wed Jan 03, 2018 7:48 pm

mega317 wrote:
Wed Jan 03, 2018 4:30 pm
I came here from your link in another thread. I don't know the answer and this is basically a bump.

But I remember from the discussion around the WCI article (Bonds go in taxable!) that it's probably fine now when rates are low, and the math may be very different when bond yields are higher.

One critique off the top of my head is that if you're doing Roth conversions to the top of the 12% bracket, you have limited space even if you're doing conversions for 15-20 years.
I looked up the WCI article. Interesting piece although he seems to be coming at it differently.

My insight that I would be curious to hear feedback on is that if you can keep taxes on conversions and withdrawals low, Traditional starts to function very much like Roth. Conventional wisdom seems to agree that stocks should be maximized in Roth, while it is OK to put bonds in Traditional for tax efficiency because Traditional is less valuable than Roth.
That is true if you plan to be in a high tax bracket in retirement. But what if you retire early with no other income?

To answer your question, we are very comfortable with about $60K in expenses. The current tax brackets would give us the standard deduction plus $77400 in the 12% bracket. I really can't imagine a scenario where we need to pull over $100K from traditional accounts.

For an early retirement scenario, I am starting to view our traditional accounts as essentially tax free, with very little difference from Roth. That would seem to argue for stocks in traditional and maximize the value of tax free (or almost free) growth.

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pezblanco
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Re: A Case for Bonds in Taxable?

Post by pezblanco » Wed Jan 03, 2018 9:44 pm

aristotelian wrote:
Wed Jan 03, 2018 10:12 am
Conventional wisdom says to but bonds in tax deferred since bond dividends are taxed as ordinary income at your marginal rate. At the same time, put stocks in Roth in order to maximize the value of stock gains. I get that. But let's say I am planning to retire early and wait until 70 to claim Social Security. Therefore, I will have a long window between early retirement and claiming social security when I expect to have low taxable income, thus enabling SEPP withdrawals and/or Roth conversions at low rates. In fact, it is possible that I may be able to pay zero tax based on threads like this one:

viewtopic.php?t=87471

If that is the case, doesn't my 401k in effect become another Roth account, even more valuable because the contributions are pretax? If that is true, shouldn't I also prioritize stock in my 401k and do everything possible to keep bonds in taxable?

Does this thinking seem sound?

If muni bonds make sense as part of this strategy, how much is too much?

I am more interested in the general approach, but if it helps some relevant particulars to my situation: I am in the now-22% tax bracket. I already have a small allocation of I Bonds and Muni Bonds (VOHIX). The bulk of my bond/fixed income allocation is in TIAA Traditional and Vanguard Wellesley in my employer plan. I am locked into the Traditional allocation for now but thinking about putting new money in the employer plan in stock.
I'm not sure of some of your conditions. The most important to know is 1) what marginal tax rate will you be in when you withdraw the money? (2) (2) What sort of timescales are you planning before you withdraw the money?

As mega317 said, when bond yields are low, you should lean more toward Bonds in Taxable as a better choice. There really shouldn't be a big difference in your thinking about Tax Deferred Space. A traditional IRA or 401 is exactly the same as a Roth except DISCOUNTED in value by the marginal tax rate that you'll withdraw the funds from it ...

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Re: A Case for Bonds in Taxable?

Post by columbia » Wed Jan 03, 2018 9:50 pm

To me, the most obviously reason to have some bonds in taxable is related to personal liquidity: if you need some cash, you can’t win withdraw it from your IRA below a certain age.

The standard response would be having an emergency fund (in cash), but that’s a personal choice. I have no interest in a savings account and ST bonds carry little medium term risk.

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Taylor Larimore
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Re: A Case for Bonds in Taxable?

Post by Taylor Larimore » Wed Jan 03, 2018 10:14 pm

aristotelian:

In my opinion, "The Case for Bonds in Taxable" is weak although in a few situations it could be better. No one knows for certain what the future holds. I base my opinion largely on this 12-page study by Professor Reichenstein:

Asset Allocation and
Asset Location Decisions Revisited


Best wishes.
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle

aristotelian
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Re: A Case for Bonds in Taxable?

Post by aristotelian » Wed Jan 03, 2018 10:17 pm

pezblanco wrote:
Wed Jan 03, 2018 9:44 pm
I'm not sure of some of your conditions. The most important to know is 1) what marginal tax rate will you be in when you withdraw the money? (2) (2) What sort of timescales are you planning before you withdraw the money?

As mega317 said, when bond yields are low, you should lean more toward Bonds in Taxable as a better choice. There really shouldn't be a big difference in your thinking about Tax Deferred Space. A traditional IRA or 401 is exactly the same as a Roth except DISCOUNTED in value by the marginal tax rate that you'll withdraw the funds from it ...
Thanks, this is in line with my thinking. I am hoping to early retire in which case I should have a good 15 years paying no more than 12% marginal with an effective rate more like 8-10%. To me, that really narrows the gap between traditional and Roth, making traditional very close to tax free. If I want to maximize that tax benefit, stocks would seem to be the way to go with bonds in taxable... although not at the expense of changing my risk exposure, and preferably in the most tax efficient way possible.

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Re: A Case for Bonds in Taxable?

Post by aristotelian » Wed Jan 03, 2018 10:29 pm

Taylor Larimore wrote:
Wed Jan 03, 2018 10:14 pm
aristotelian:

In my opinion, "The Case for Bonds in Taxable" is weak although in a few situations it could be better. No one knows for certain what the future holds. I base my opinion largely on this 12-page study by Professor Reichenstein:

Asset Allocation and
Asset Location Decisions Revisited


Best wishes.
Taylor
I appreciate the link and will certainly read the article. Yes, I realize the strategy I am laying out is very specific to:

1) early retirement and/or delay social security scenario, with many anticipated years in a low tax bracket for withdrawals and conversions from the traditional accounts,

2) enough funds in after-tax accounts (having maxed retirement accounts) to hold at least a portion of the bond allocation,

3) enough early retirement years to withdraw from/convert the traditional accounts and avoid RMDs during years with taxable SS/pension income.

I realize that may not apply to most people, although I think there may be more fitting that profile on this site than your average population. I have no doubt that the conventional wisdom works for most people and that is one reason why I made the topic "a" (and not "the") case for bonds in taxable.
Last edited by aristotelian on Thu Jan 04, 2018 7:18 am, edited 1 time in total.

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Re: A Case for Bonds in Taxable?

Post by grabiner » Wed Jan 03, 2018 10:36 pm

It doesn't really matter what goes in a traditional or Roth account; see Tax-adjusted asset allocation on the wiki. If you will withdraw or convert your traditional IRA in a 15% tax bracket, then the IRS owns 15% and you own the other 85%; $10,000 in a traditional IRA and $8500 in a Roth IRA will have the same after-tax value if invested the same way. Thus it makes sense to treat $10,000 in a traditional IRA as $8500 invested tax-free.

Whether to hold bonds or stocks in a taxable account thus depends on the tax costs of bonds and stocks, and that depends on yields and on your tax bracket. My rule of thumb is that bonds in a taxable account are better in a moderate bracket when muni yields are less than stock yields. If you pay high state tax and can use munis from your state, or have a higher marginal tax rate on qualified dividends (child tax credit phase-out, ACA surtax, 20% tax rather than 15% at high incomes), then munis are attractive at slightly higher yields.

Thus, with a current yield of 2.09% on Admiral shares of Vanguard Intermediate-Term Tax-Exempt, and 1.76% on Total Stock Market, I would prefer stocks in taxable unless you have a higher marginal tax rate, or live in CA, NJ, or NY with their high state taxes. (I live in MD, which also has high state taxes, but no Vanguard fund, and the tax savings on non-Vanguard funds is not worth the extra expenses. Therefore, I recommend stocks in taxable for MD investors.)
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pezblanco
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Re: A Case for Bonds in Taxable?

Post by pezblanco » Wed Jan 03, 2018 10:45 pm

Taylor Larimore wrote:
Wed Jan 03, 2018 10:14 pm
aristotelian:

In my opinion, "The Case for Bonds in Taxable" is weak although in a few situations it could be better. No one knows for certain what the future holds. I base my opinion largely on this 12-page study by Professor Reichenstein:

Asset Allocation and
Asset Location Decisions Revisited


Best wishes.
Taylor
Taylor, you should note that the study you reference assumes that there is a 6 percent return on bonds (11 percent on stocks). Even with those large bond yields he says that Stocks in Taxable is only slightly preferred.

At current bond yields ... I think it is pretty clear, Bonds in Taxable is optimal under almost any reasonable optimization criterion. The White Coat Investor article should be required reading for all investors.

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pezblanco
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Re: A Case for Bonds in Taxable?

Post by pezblanco » Wed Jan 03, 2018 10:58 pm

grabiner wrote:
Wed Jan 03, 2018 10:36 pm
It doesn't really matter what goes in a traditional or Roth account; see Tax-adjusted asset allocation on the wiki. If you will withdraw or convert your traditional IRA in a 15% tax bracket, then the IRS owns 15% and you own the other 85%; $10,000 in a traditional IRA and $8500 in a Roth IRA will have the same after-tax value if invested the same way. Thus it makes sense to treat $10,000 in a traditional IRA as $8500 invested tax-free.

Whether to hold bonds or stocks in a taxable account thus depends on the tax costs of bonds and stocks, and that depends on yields and on your tax bracket. My rule of thumb is that bonds in a taxable account are better in a moderate bracket when muni yields are less than stock yields. If you pay high state tax and can use munis from your state, or have a higher marginal tax rate on qualified dividends (child tax credit phase-out, ACA surtax, 20% tax rather than 15% at high incomes), then munis are attractive at slightly higher yields.

Thus, with a current yield of 2.09% on Admiral shares of Vanguard Intermediate-Term Tax-Exempt, and 1.76% on Total Stock Market, I would prefer stocks in taxable unless you have a higher marginal tax rate, or live in CA, NJ, or NY with their high state taxes. (I live in MD, which also has high state taxes, but no Vanguard fund, and the tax savings on non-Vanguard funds is not worth the extra expenses. Therefore, I recommend stocks in taxable for MD investors.)
Grabiner, I tried to do an analysis in another thread .... I made a lot of simplifying assumptions (if you assume that bonds will always be munis in Taxable ... and that all dividends are qualified and all cap gains are long term ... then marginal tax rates don't even come into the analysis)

viewtopic.php?f=10&t=234117&p=3677976#p3667610

desiderium
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Re: A Case for Bonds in Taxable?

Post by desiderium » Wed Jan 03, 2018 11:14 pm

aristotelian wrote:
Wed Jan 03, 2018 10:12 am
Conventional wisdom says to but bonds in tax deferred since bond dividends are taxed as ordinary income at your marginal rate. At the same time, put stocks in Roth in order to maximize the value of stock gains. I get that. But let's say I am planning to retire early and wait until 70 to claim Social Security. Therefore, I will have a long window between early retirement and claiming social security when I expect to have low taxable income, thus enabling SEPP withdrawals and/or Roth conversions at low rates. In fact, it is possible that I may be able to pay zero tax based on threads like this one:

viewtopic.php?t=87471

If that is the case, doesn't my 401k in effect become another Roth account, even more valuable because the contributions are pretax? If that is true, shouldn't I also prioritize stock in my 401k and do everything possible to keep bonds in taxable?

Does this thinking seem sound?

If muni bonds make sense as part of this strategy, how much is too much?

I am more interested in the general approach, but if it helps some relevant particulars to my situation: I am in the now-22% tax bracket. I already have a small allocation of I Bonds and Muni Bonds (VOHIX). The bulk of my bond/fixed income allocation is in TIAA Traditional and Vanguard Wellesley in my employer plan. I am locked into the Traditional allocation for now but thinking about putting new money in the employer plan in stock.
What about when RMD's hit? If you already have a large tax-deferred nest egg, RMDs might come in high and push you into a higher tax bracket. In that case, you might want to put lower growth assets into tax deferred and have your stock gains taxed at a capital gains rate, i.e. by locating in taxable

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Re: A Case for Bonds in Taxable?

Post by Taylor Larimore » Wed Jan 03, 2018 11:22 pm

pezblanco wrote:
Wed Jan 03, 2018 10:45 pm
Taylor Larimore wrote:
Wed Jan 03, 2018 10:14 pm
aristotelian:

In my opinion, "The Case for Bonds in Taxable" is weak although in a few situations it could be better. No one knows for certain what the future holds. I base my opinion largely on this 12-page study by Professor Reichenstein:

Asset Allocation and
Asset Location Decisions Revisited


Best wishes.
Taylor
Taylor, you should note that the study you reference assumes that there is a 6 percent return on bonds (11 percent on stocks). Even with those large bond yields he says that Stocks in Taxable is only slightly preferred.

At current bond yields ... I think it is pretty clear, Bonds in Taxable is optimal under almost any reasonable optimization criterion. The White Coat Investor article should be required reading for all investors.
pezblanco:

You are correct about current bond yields being lower. However, current stock yields are higher. It is primarily the difference in returns (and future returns) that determine the better location. For example, if we currently place high return stocks in tax-advantaged accounts, upon withdrawal, the income-tax rate will normally be much higher than the capital-gain rate had stocks been in a taxable account. We should also recognize that the current low bond yields are unlikely to remain forever.

I believe the most logical rule is to put tax-inefficient securities (taxable bonds) in tax-advantaged accounts--and tax-efficient securities (broad market index funds) in taxable accounts.

Best wishes.
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle

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Re: A Case for Bonds in Taxable?

Post by patrick » Wed Jan 03, 2018 11:37 pm

Note that the new tax law has reduced the tax rates on ordinary income. The difference between the ordinary income rate and the capital gains/dividend rate has shrunk so there is not so much there is no longer so much of a penalty for filling the taxable account with bonds which throw off ordinary income.

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Re: A Case for Bonds in Taxable?

Post by aristotelian » Wed Jan 03, 2018 11:52 pm

desiderium wrote:
Wed Jan 03, 2018 11:14 pm
What about when RMD's hit? If you already have a large tax-deferred nest egg, RMDs might come in high and push you into a higher tax bracket. In that case, you might want to put lower growth assets into tax deferred and have your stock gains taxed at a capital gains rate, i.e. by locating in taxable
Again, the scenario I am considering is early retirement, with perhaps 15 or more years before both RMDs and Social Security. I would hope to withdraw or convert to Roth most or all of the traditional funds by that point.

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Re: A Case for Bonds in Taxable?

Post by SonnyDMB » Wed Jan 03, 2018 11:56 pm

I’m in a similar situation as the OP and working thru this same decision (early retirement and 20 years to convert traditional before age 70 to reduce taxes on future RMDs). The aspect I’m trying to assess is if I keep my bond allocation in traditional....then it won’t grow as fast and I will be able to covert a larger percentage before age 70 (with an offset to some degree with stocks in taxable and larger cap gains accumulating to address at some point). if I keep stocks in traditional...the growth would put me in a spot where I’m more likely that I either need to accept RMDs taxed at a higher bracket or convert larger amounts prior to 70 (22-24% bracket).

that’s the trade off I feel I’m at and might just go with a split approach....Portion of i bonds and munis in taxable and other bonds in traditional.

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Re: A Case for Bonds in Taxable?

Post by aristotelian » Thu Jan 04, 2018 12:03 am

Taylor Larimore wrote:
Wed Jan 03, 2018 11:22 pm
I believe the most logical rule is to put tax-inefficient securities (taxable bonds) in tax-advantaged accounts--and tax-efficient securities (broad market index funds) in taxable accounts.

Best wishes.
Taylor
But isn't that based on the assumption that you are in a medium to high tax bracket? If you are going to early retire with little tax for 10-15 years, you don't need to worry so much about tax inefficiency. There are also alternative such as I Bonds and EE Bonds that are tax efficient.

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Re: A Case for Bonds in Taxable?

Post by SCV_Lawyer » Thu Jan 04, 2018 12:57 am

We are also in a similar position. I plan to retire in 5 years at 54 (DW is SAHM -- same age), and 2/3 of our assets will be in qualified plans. I will get killed on RMDs if I don't spend these funds down. My expected annual expenses (including taxes) in 2018 dollars is $165K. So from 54 to 59, I plan to take SEPPs in the amount of $108,300 (again, in 2018 dollars), which is $77,400 (12% bracket), plus $24,000 SD, plus $6,900 HSA contribution. We will incur $8,900 in fed taxes. The remaining $57K will come from taxable. A large part of our taxable will be basis, so LTCG will be low -- maybe add 15% of $6K of gain, or $1000 in taxes. So to w/d $165K, we pay fed taxes of just $10K.

Once I hit 59 1/2, we will continue the same strategy, except not as SEPPs (and HSA contributions will go away after 65). Hopefully, once we hit 70 and we take SS, RMDs will be less than our required expenses. If not, I guess that is a good problem to have since it means we got a lot of growth.

For these reasons, I keep all bonds in 401K/KEOGH/tIRA so those accounts do not grow as quickly and make RMDs higher than expenses.

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Re: A Case for Bonds in Taxable?

Post by grabiner » Thu Jan 04, 2018 8:43 am

aristotelian wrote:
Thu Jan 04, 2018 12:03 am
Taylor Larimore wrote:
Wed Jan 03, 2018 11:22 pm
I believe the most logical rule is to put tax-inefficient securities (taxable bonds) in tax-advantaged accounts--and tax-efficient securities (broad market index funds) in taxable accounts.

Best wishes.
Taylor
But isn't that based on the assumption that you are in a medium to high tax bracket? If you are going to early retire with little tax for 10-15 years, you don't need to worry so much about tax inefficiency. There are also alternative such as I Bonds and EE Bonds that are tax efficient.
In the lowest brackets (now 10% and 12%), you pay zero tax on qualified dividends and long-term gains, so your stocks lose nothing for being in a taxable account, while your bonds lose something. It's in the middle brackets, when you pay 15% on qualified dividends and long-term gains, and 22-24% on bond dividends (or an implicit cost for using munis), that the decision becomes closer.
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Re: A Case for Bonds in Taxable?

Post by Doc » Thu Jan 04, 2018 11:58 am

grabiner wrote:
Thu Jan 04, 2018 8:43 am
In the lowest brackets (now 10% and 12%), you pay zero tax on qualified dividends and long-term gains, so your stocks lose nothing for being in a taxable account, while your bonds lose something.
Except if you are in the social security phasein range when even QD and LTCG may have a 5% or 8.5% effective tax rate even in the 10% bracket.
A scientist looks for THE answer to a problem, an engineer looks for AN answer and lawyers ONLY have opinions. Investing is not a science.

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Re: A Case for Bonds in Taxable?

Post by BigJohn » Thu Jan 04, 2018 6:56 pm

I’m in a similar situation, 9 years to RMD/SS, doing significant Roth conversions and living off my taxable account. In this situation having taxable at 100% stocks is not a prudent approach in my opinion It leaves you open to either a significant sequence of return risk if there is a correction or the need to abandon my conversion plans because of the need to sell bonds in tax deferred.

I agree with comments above that some of the case for action for bonds in taxable is less than it used to be. However, even if it’s there, the tax benefit of protecting my Roth conversion plans is far greater. As a result, I have a substantial bond allocation in my taxable account but use a muni fund given my current marginal tax rate. Whether a muni fund is best for you or not depends on your incremental tax rate.

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Re: A Case for Bonds in Taxable?

Post by SonnyDMB » Thu Jan 04, 2018 8:52 pm

or the need to abandon my conversion plans because of the need to sell bonds in tax deferred.

I agree with your approach, but for my clarification in your scenario, can you sell the bonds in you tax deferred and replace in your tax deferred with stocks....and then sell some stocks in your taxable....if you need the cash? (specific to the scenario you're referring to). depending how big the correction, may have some lots in taxable that don't have cap gains in that scenario. I'm wanting to make sure i understand correctly as I get up to speed (on site a couple months) and am in a similar scenario.

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Re: A Case for Bonds in Taxable?

Post by BigJohn » Thu Jan 04, 2018 10:50 pm

SonnyDMB wrote:
Thu Jan 04, 2018 8:52 pm
I agree with your approach, but for my clarification in your scenario, can you sell the bonds in you tax deferred and replace in your tax deferred with stocks....and then sell some stocks in your taxable....if you need the cash? (specific to the scenario you're referring to). depending how big the correction, may have some lots in taxable that don't have cap gains in that scenario. I'm wanting to make sure i understand correctly as I get up to speed (on site a couple months) and am in a similar scenario
Sonny, for me this is not about managing cap gains/losses or my overall AA but rather sequence of return risk early in an an early retirement. The problematic scenario is selling stocks during a major correction when you are having to sell a lot more shares to raise the same cash. This makes it that much tougher to recover. So in that scenario my bond allocation will be higher than target and I'll sell bonds and hold stocks. My goal is to have enough bonds in taxable to weather a 3 - 5 year bull market and recovery without selling any stocks to keep my Roth conversion plans on track.

Here's a good article from Kitces that may explain sequence of return risk better.
https://www.kitces.com/blog/understandi ... d-decades/

Hope this helps, feel free to ask more questions as needed.

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Re: A Case for Bonds in Taxable?

Post by celia » Sat Jan 06, 2018 6:59 pm

aristotelian wrote:
Wed Jan 03, 2018 10:12 am
But let's say I am planning to retire early and wait until 70 to claim Social Security. Therefore, I will have a long window between early retirement and claiming social security when I expect to have low taxable income, thus enabling SEPP withdrawals and/or Roth conversions at low rates....

If that is the case, doesn't my 401k in effect become another Roth account, even more valuable because the contributions are pretax? If that is true, shouldn't I also prioritize stock in my 401k and do everything possible to keep bonds in taxable?
This doesn't make sense to me. Your pre-tax accounts are worth less than Roth and taxable BECAUSE you have not yet paid the taxes on the account. The only way it makes sense to me is if the account value is small, and withdrawals can be tax-free. But that limits how much you can withdraw. And if you retire early, you need more money (somewhere) to get you through those early years.

If you keep stock in the 401k, that will make the account grow faster, and also cause more taxes to be owed. If they are paid from taxable, more taxable dollars will be needed. If the taxes are withheld from the withdrawal, that is less money you have to spend and you will have to withdraw more than if you spent from taxable or Roth.

After reading the thread up to here, I get the impression you might not have any Roth accounts. That will limit where you can withdraw money from in retirement without incurring more taxes at the time.

aristotelian wrote:
Wed Jan 03, 2018 7:48 pm
[To answer your question, we are very comfortable with about $60K in expenses. The current tax brackets would give us the standard deduction plus $77400 in the 12% bracket. I really can't imagine a scenario where we need to pull over $100K from traditional accounts.
Have you ever heard of inflation? Have you ever heard of tax brackets changing? In retirement, wouldn't it be good to have a growing source of money that is tax-free?
For an early retirement scenario, I am starting to view our traditional accounts as essentially tax free, with very little difference from Roth. That would seem to argue for stocks in traditional and maximize the value of tax free (or almost free) growth.
I'm not sure it you mean traditional IRAs or taxable accounts. But I regard both of those as very different from Roths.
EVERY single dollar will be taxed when it comes out of traditional IRAs.
Only the GROWTH in taxable will be taxed again.
NOTHING in the Roth withdrawal will be taxed, as long as you are over 59.5 and you have had a Roth account for 5 years.

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Re: A Case for Bonds in Taxable?

Post by aristotelian » Sat Jan 06, 2018 8:47 pm

celia wrote:
Sat Jan 06, 2018 6:59 pm
aristotelian wrote:
Wed Jan 03, 2018 10:12 am
But let's say I am planning to retire early and wait until 70 to claim Social Security. Therefore, I will have a long window between early retirement and claiming social security when I expect to have low taxable income, thus enabling SEPP withdrawals and/or Roth conversions at low rates....

If that is the case, doesn't my 401k in effect become another Roth account, even more valuable because the contributions are pretax? If that is true, shouldn't I also prioritize stock in my 401k and do everything possible to keep bonds in taxable?
This doesn't make sense to me. Your pre-tax accounts are worth less than Roth and taxable BECAUSE you have not yet paid the taxes on the account. The only way it makes sense to me is if the account value is small, and withdrawals can be tax-free. But that limits how much you can withdraw. And if you retire early, you need more money (somewhere) to get you through those early years.

If you keep stock in the 401k, that will make the account grow faster, and also cause more taxes to be owed. If they are paid from taxable, more taxable dollars will be needed. If the taxes are withheld from the withdrawal, that is less money you have to spend and you will have to withdraw more than if you spent from taxable or Roth.

After reading the thread up to here, I get the impression you might not have any Roth accounts. That will limit where you can withdraw money from in retirement without incurring more taxes at the time.


Have you ever heard of inflation? Have you ever heard of tax brackets changing? In retirement, wouldn't it be good to have a growing source of money that is tax-free?

I'm not sure it you mean traditional IRAs or taxable accounts. But I regard both of those as very different from Roths.
EVERY single dollar will be taxed when it comes out of traditional IRAs.
Only the GROWTH in taxable will be taxed again.
NOTHING in the Roth withdrawal will be taxed, as long as you are over 59.5 and you have had a Roth account for 5 years.
Thank you for this response. I have learned a lot from your posts.

Yes, I have Roth and max his and her Roth accounts. Nothing I have said is to slight Roth. The point is not prioritize traditional over Roth, but to prioritize stock in both over bonds and shift bonds to taxable. All I am saying is that the logic to hold stock in Roth to take advantage of tax-free growth applies *almost* equally to tax-deferred accounts *if* you expect a low tax rate in retirement. I did not realize just how low taxes can be until coming to Bogleheads, but I have become convinced.

This would be true in an early retirement scenario when you have no RMDs or SS/pension. Right now I have about 20% Roth, 35% traditional, 45% brokerage. I am expecting to move more toward traditional as our employer plans are getting the biggest contributions. Between appreciated stocks in the taxable account, Roth funds, and the standard deduction, I believe I could cover my expenses while keeping withdrawals from the 401k within the 12% bracket for an effective rate of perhaps 5 or 6%.

When I say traditional, yes, I mean tax deferred (employer plans in our case, IRA's are all Roth). Of course I understand traditional accounts will be taxed on withdrawal (and you do not need capital letters to remind me).

You are right, tax brackets could change. They could change for better or for worse so I am not sure how that affects my plan. The point about inflation is interesting too. (Of course I am familiar with inflation!). Those are risks to be sure.

jmlatham3
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Re: A Case for Bonds in Taxable?

Post by jmlatham3 » Thu Dec 06, 2018 3:05 pm

Hello all. New to the Forum.

I have been reading this and similar threads to familiarize myself with the arguments pro and con for bonds in taxable accounts. I've also been reading about Total US vs Total International Stock funds in taxable accounts and wonder if international bonds (such as the Total International Bond Fund) taxed differently than US bonds (such as US Total Bond Fund) since domestic and international stocks are taxed differently?

I'm aware there are diverse views on the merits of holding international bonds and am not looking to kindle that debate; I'm just curious about the taxes here.

Thank you.

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grabiner
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Re: A Case for Bonds in Taxable?

Post by grabiner » Thu Dec 06, 2018 11:08 pm

jmlatham3 wrote:
Thu Dec 06, 2018 3:05 pm
I have been reading this and similar threads to familiarize myself with the arguments pro and con for bonds in taxable accounts. I've also been reading about Total US vs Total International Stock funds in taxable accounts and wonder if international bonds (such as the Total International Bond Fund) taxed differently than US bonds (such as US Total Bond Fund) since domestic and international stocks are taxed differently?
Total International Bond Index has almost no foreign tax withheld; last year, 0.34% of the dividend was withheld as foreign tax, versus about 7% for most foreign stock funds. Therefore, if you hold bonds in your taxable account, it doesn't matter much whether they are US or foreign bonds. (If you are in a high tax bracket, you shouldn't hold either Total Bond Market or Total International Bond Index in a taxable account; any bonds in your taxable account should be municipal bonds, or TIPS/Treasury bonds if the reason for your high tax rate is a high state tax.)
Wiki David Grabiner

jmlatham3
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Re: A Case for Bonds in Taxable?

Post by jmlatham3 » Fri Dec 07, 2018 2:19 pm

Thank you for the information.

For 2018 I will fall into the 22% tax bracket for Federal Taxes. I live in Alaska so there is no state income tax. From what I have read about munis vs taxable bonds and calculating TEY it seems like for me there is no real advantage one way or the other unless I start making significantly more or less money.

Thanks again.

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