Asset Location

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Park
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Asset Location

Post by Park » Sun May 12, 2019 8:29 am

"There is rarely a cookie cutter solution for implementing asset location strategies, but generally, it's best to hold stocks in taxable accounts since the dividends and capital gains realized from these investments are taxed a lower rate than investments generating ordinary income...

Holding stocks in your taxable accounts also gives investors greater control over the timing of their taxes...

Another advantage of holding stocks in taxable accounts is the ability to harvest losses for tax purposes...

If you want to donate some of your wealth to a charity you care about, there's one final advantage to keeping stocks in taxable accounts."

Lazaroff, Peter. Making Money Simple (p. 93). Wiley. Kindle Edition.

About stocks in taxable giving investors greater control over tax timing, I hadn't thought about it, but it is an advantage. When RMDs occur with stocks, you've lost the timing decision that you have with stocks in taxable. Since there is less flexibility, when it comes to timing taxes with bonds, RMDs from bonds are less of an issue in that regard.

As for stocks in taxable accounts and fixed income in tax advantaged accounts, that's not without controversy. To illustrate, I'll make the following extreme simplified example. Bonds are taxed at 50%, and stocks are taxed at 25%, so at first glance, bonds should go in tax advantaged and stocks should go in taxable. But assume bonds have a return of 2% and stocks have a return of 10%. You're going to lose 1% of absolute return by having bonds in taxable versus 2.5% of absolute return by having stocks in taxable. So from an absolute return point of view, stocks in tax advantaged and bonds in taxable make more sense in that example.

Also, stocks in taxable and bonds in tax advantaged can be problematic, when it comes to liquidity. Assume that an unexpected situation arises in your personal life, where you need money. With stocks in taxable, you may have to sell stocks, resulting in cap gains tax being paid.

Finally, stocks in taxable and bonds in tax advantaged can make it more difficult to rebalance. I believe Rick Ferri advocates having similar asset allocations in different accounts, in order to facilitate rebalancing.

Anything that I'm missing? Criticisms?

retiredjg
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Re: Asset Location

Post by retiredjg » Sun May 12, 2019 8:36 am

I think what your are missing is the fact that you need to fill your tax-advantaged accounts first. Then consider what to put in taxable. It is at that point that the argument to put stocks into taxable makes sense.

Filling the tax-deferred accounts frequently results in having both stocks and bonds in tax-deferred accounts where it is easy to rebalance the portfolio without a tax cost.

If you do have a taxable account (many do not), do not despair about having to sell in taxable to get needed money. Have an emergency fund. If your needs exceed the emergency fund, sell stocks in taxable and then sell bonds and buy stocks in tax-deferred accounts. That way, you are actually selling bonds, not stocks.

Putting all your stocks into taxable and all your bonds into tax-deferred would result in a terribly awkward portfolio.

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jeffyscott
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Re: Asset Location

Post by jeffyscott » Sun May 12, 2019 9:22 am

Park wrote:
Sun May 12, 2019 8:29 am
If you want to donate some of your wealth to a charity you care about, there's one final advantage to keeping stocks in taxable accounts.
If you don't spend it all, you (well, your heirs) get basically that same advantage due to the stepped up cost basis.
As for stocks in taxable accounts and fixed income in tax advantaged accounts, that's not without controversy. To illustrate, I'll make the following extreme simplified example. Bonds are taxed at 50%, and stocks are taxed at 25%, so at first glance, bonds should go in tax advantaged and stocks should go in taxable. But assume bonds have a return of 2% and stocks have a return of 10%. You're going to lose 1% of absolute return by having bonds in taxable versus 2.5% of absolute return by having stocks in taxable. So from an absolute return point of view, stocks in tax advantaged and bonds in taxable make more sense in that example.
It's more complicated than that, the bond returns are taxed every year only the dividends from stocks are taxed every year, the long term cap gains are only taxed when you sell (or possibly never, see above). But, when bond yields are extremely low, it may make sense to reverse things for some people. Unlikely (or essentially impossible :?: ) to be the case for those in the 0% LTCG bracket, where Federal tax on the stocks may be 0 (if no short term gains or unqualified dividends).
Time is your friend; impulse is your enemy. - John C. Bogle

columbia
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Re: Asset Location

Post by columbia » Sun May 12, 2019 9:29 am

Unless you’re keeping your emergency account in a Roth, one would certainly have a decent chunk in taxable as money market/ST bonds. Then again, maybe some don’t count their emergency fund as part of their overall allocation?

Explorer
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Re: Asset Location

Post by Explorer » Sun May 12, 2019 10:28 am

I think tax impact is clearly a consideration in asset location - but I am not sure allowing tax tail wagging the investment dog makes a lot of sense.

Some people have large taxable accounts and investing all of that in stocks may throw their AA out of kilter.

So for me, AA first taxes next - quite frankly I don't mind paying my fair share of taxes to the government if I am earning money on money.

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Taylor Larimore
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Re: Asset Location

Post by Taylor Larimore » Sun May 12, 2019 10:43 am

Bogleheads:

Our Bogleheads Wiki has the best, and most up-to-date, information about Asset Location that I know:

Tax-Efficient Fund Placement

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

ThrustVectoring
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Re: Asset Location

Post by ThrustVectoring » Sun May 12, 2019 10:54 am

retiredjg wrote:
Sun May 12, 2019 8:36 am

If you do have a taxable account (many do not), do not despair about having to sell in taxable to get needed money. Have an emergency fund. If your needs exceed the emergency fund, sell stocks in taxable and then sell bonds and buy stocks in tax-deferred accounts. That way, you are actually selling bonds, not stocks.
Depending on your personal situation, the best plan may be to take a margin loan against your taxable account stock holdings and to sell an equivalent amount of stocks for bonds in your tax deferred account. You end up paying the rather minimal spread between margin loan rates and bonds, rather than hefty capital gain taxes. One big factor involved is the size of the withdrawal compared to your taxable account - personally, I'd limit margin to no more than 20%. Also relevant is your broker's margin rates (Interactive Brokers typically has the best), how much basis you have in your taxable stocks, and how long you'd have the margin loan up before it gets replenished by your savings rate.
Current portfolio: 60% VTI / 40% VXUS

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grabiner
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Re: Asset Location

Post by grabiner » Sun May 12, 2019 3:59 pm

Park wrote:
Sun May 12, 2019 8:29 am
As for stocks in taxable accounts and fixed income in tax advantaged accounts, that's not without controversy. To illustrate, I'll make the following extreme simplified example. Bonds are taxed at 50%, and stocks are taxed at 25%, so at first glance, bonds should go in tax advantaged and stocks should go in taxable. But assume bonds have a return of 2% and stocks have a return of 10%. You're going to lose 1% of absolute return by having bonds in taxable versus 2.5% of absolute return by having stocks in taxable. So from an absolute return point of view, stocks in tax advantaged and bonds in taxable make more sense in that example.
There is a real effect which fits this case: the lower the yield on a bond, the lower the tax cost. My own estimate is that munis with yields equal to stock yields are as tax-efficient as stocks in a moderate tax bracket. (The tax cost on munis is hidden; it is the difference between the yield of munis and of taxable bonds of comparable risk, which is the yield you gave up by choosing to hold bonds in your taxable account.) In a high tax bracket (in which you pay 18.8% or 23.8% rather than the usual 15% on qualified dividends), or if there is a low-cost muni fund for your high-tax state, munis in taxable are better even with the slightly higher current yields.
Wiki David Grabiner

272 Sheep
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Re: Asset Location

Post by 272 Sheep » Sun May 12, 2019 9:07 pm

For some, especially with large TIRAs it would be good to put your stocks in Roth IRA.
The higher growth in that portion (Roth) and combined with slower growth in tax-deferred portion of your portfolio that would help
reduce RMDs, later and be tax free, besides.
Carl W.

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grabiner
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Re: Asset Location

Post by grabiner » Sun May 12, 2019 11:22 pm

272 Sheep wrote:
Sun May 12, 2019 9:07 pm
For some, especially with large TIRAs it would be good to put your stocks in Roth IRA.
The higher growth in that portion (Roth) and combined with slower growth in tax-deferred portion of your portfolio that would help
reduce RMDs, later and be tax free, besides.
Carl W.
This is the correct reason to prefer stocks in a Roth IRA if all else is equal. If you know that you will withdraw the money at a 25% tax rate, then there is no difference between $4000 in a Traditional IRA and $3000 in a Roth IRA; both will have the same after-tax value if invested the same way. But if you have a large Traditional IRA and the stock market booms, you might withdraw your Traditional IRA in a higher tax bracket than you expected, or have to take RMDs you don't need; if the stocks are in a Roth IRA, you keep the tax-free growth for your heirs.

But this is a separate decision from the decision of what to put in a taxable account. If stocks in a taxable account are more tax-efficient for you, then you should hold stocks there, even if that means that you need to hold bonds in your Roth IRA (because the traditional account isn't big enough for all your bonds, or because it is in a 401(k) with better stock than bond options).
Wiki David Grabiner

SpideyIndexer
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Re: Asset Location

Post by SpideyIndexer » Mon May 13, 2019 8:13 pm

Explorer wrote:
Sun May 12, 2019 10:28 am
I think tax impact is clearly a consideration in asset location - but I am not sure allowing tax tail wagging the investment dog makes a lot of sense.

Some people have large taxable accounts and investing all of that in stocks may throw their AA out of kilter.

So for me, AA first taxes next - quite frankly I don't mind paying my fair share of taxes to the government if I am earning money on money.
Without doubt consider AA as the first priority. Then AL (asset location.) Some folks consider tax-adjusting the AA a headache but I maintain it should be done. My principle is not to go to extreme measures to reduce my taxes but rather to maximize the amount I can spend from my portfolio. This involves considering taxes, risk and variations of returns.

When transitioning from employment to retirement it is possible one may need "steer the ship in a different direction" with Roth conversions etc.

Dandy
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Re: Asset Location

Post by Dandy » Tue May 14, 2019 2:39 pm

Putting all your stocks into taxable and all your bonds into tax-deferred would result in a terribly awkward portfolio.
I agree. I have always has a modest equity allocation in my TIRA and some muni bond funds, money markets, etc in my taxable. Great for rebalancing and add a bit of growth to the TIRA. On the flip side a large TIRA can generate large RMDs later in retirement. Since pensions a on the endangered list that might not be as big a problem for younger investors. Some allocation to Roth especially in the early, low income years, can be the sweet spot for a high equity tax sheltered account.

Also, don't expect to do much tax loss harvesting if your a buy and hold investor since over time equity investments usually have nice cap gains.

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