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Old 10-02-2008, 05:05 PM   #21
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Yes it makes sense to put income producing securities in taxable accounts. I am formulating a plan to do the same thing.

Considerations:

Muni bonds (especially if in high tax bracket and/or in state with high taxes).
Dividend paying stocks (taxes paid will be lower than interest on bonds)

Others here have pointed out that if you sell 100 shares of stock in an IRA then buy same 100 shares of stock in a taxable account, that is an OK move to maintain allocation (to create room for bonds in an IRA).

I would try to hold dividend paying stocks in a taxable account before I would hold bonds in a taxable account. I would hold muni bonds in a taxable account before I would hold regular bonds in same taxable account, especially if in high tax bracket (and I consider 28% bracket high).
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Old 10-03-2008, 11:48 AM   #22
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So here's my take-away from this thread (so far):

1. There is a difference of opinion as to whether or not one should hold income-producing assets in a taxable account.

2. If you decide to hold income-producing assets in a taxable account, those that pay dividends are preferable to those that pay interest income (all other things being equal) because dividends are taxed at a lower level than interest income.

3. Munis are also preferable for a taxable account because the interest income is often tax-free.

4. When selling and then buying in two accounts, be aware of IRS wash sale rules.

5. Different people rely on income assets for different purposes. Awareness of your needs will help you allocate your assets most effectively.

So, a new question (brought to the forefront by Nords' post) is: asset allocation is the answer to the problem of being forced to sell equities at a market low. But our taxable account and tax-deferred accounts are going to be drawn upon at different times in our lives. This would mean that both our taxable and tax-deferred accounts should have bonds as well as equities. If we had just equities in our taxable account (as LOL proposes), we'd be selling at a loss if we were drawing from that account during a market low (say, during the first 10 years of ER). And since we look at our portfolio as a single entity, the portfolio as a whole would be taking a loss. Correct?

This is still murky water for me, but is getting clearer (or maybe I'm just getting used to bumping around in the darkness).

Thanks!
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Old 10-03-2008, 12:24 PM   #23
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Urchina;

You need to re-read and understand LOL's post:

Quote:
So, a new question (brought to the forefront by Nords' post) is: asset allocation is the answer to the problem of being forced to sell equities at a market low. But our taxable account and tax-deferred accounts are going to be drawn upon at different times in our lives. This would mean that both our taxable and tax-deferred accounts should have bonds as well as equities. If we had just equities in our taxable account (as LOL proposes), we'd be selling at a loss if we were drawing from that account during a market low (say, during the first 10 years of ER). And since we look at our portfolio as a single entity, the portfolio as a whole would be taking a loss. Correct?
I know it took me a couple of go rounds to understand this concept.

For example you sell TSM from your taxable account to cover expenses. You then sell a bond fund in your tax deferred account and buy TSM in your deferred account thus maintaining your AA and NOT locking in a loss if TSM had fallen. You have effectively "sold bonds" to cover expenses. If you want to TLH you have to wait 31 days to avoid the wash sale rule.

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Old 10-03-2008, 01:47 PM   #24
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But she'd then need to read what I said about buying TSM in the tax deferred account after selling it in the taxable account incurring the wash sale rule, eliminating the ability to claim the loss, and then paying ordinary income rates on the withdrawals from the sales of the equities in the deferred account without being able to adjust the cost basis due to the loss.

If you guys have been doing this and claiming the loss because you think that selling in a taxable and rebuying in a tax deferred somehow doesnt make it a wash sale, you'd better start amending your returns before you get audited.

Of course you could sell TSM in one account and buy a chunk of the S&P500 and the extended market in the right ratios in the other and slip by it.

The next shoe dropping is if the special rate for qualified dividends goes away, and the old capital gains rates come back. Given the bailouts and spending thats almost a given, or at least quite likely.

At that point the only way to fix your portfolio will be to take a bunch of huge capital gains from all those equities in your taxable account.
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Old 10-03-2008, 02:21 PM   #25
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I don't see why CFB keep interjecting comments that confuse the issue. There are trivial ways to avoid any wash sales. Also a wash sale possibility only occurs if you have a loss. If you are a long term holder of equities in taxable and you have been prudently doing tax-loss harvesting every year, this will not be a real issue. CFB also states this will not be a real issue, so we can stop bringing it up. It's a red herring.

Let me try another analogy.

Suppose I start off with only $10 bills in my right pocket and $20 bills in my left pocket. Each year, I count my $10 bills and my broker gives me 2% in dividends (20 cents for each bill) and the government takes 15% or 3 cents of the 20 cents each year. Each year I count my $20 bills. The government gives me $1 for each $20 bill I have and I don't have to pay any taxes on those $1 bills. If I get enough $1 bills, I can exchange them for $20 bill or even a $10 bill, but all that stays in my left pocket.

Now I need to spend some money. I can only spend money from my right pocket because if I take money from my left pocket there will be a 10% penalty. I can spend all the change in my right pocket (those 2% in dividends) and I can spend the $10 bills.

In my left pocket, I have those $20 bills which just sit there earning some $1 bills. I can also trade a $20 bill in my left pocket into two $10 bills but those $10 bills have to go back in my left pocket.

If I want to keep at least the same number of $10 bills in total that I have in both pockets even when I spend a $10 bill from my right pocket, what do I do? If I spend a $10 bill from my right pocket, I simply take a $20 bill in my left pocket and exchange it for two $10 bills which I have to keep in my left pocket. It simply looks like I spent a $20 bill.

OK, please don't make me think of an analogy with apples and oranges.

I have been following this method and reduced my taxes by thousands of dollars. Those are dollars that I get to keep in my pockets. Because my tax rate becomes low, I will be able now to convert more of my traditional IRA funds to Roth IRA funds at low tax rates well before required minimum distributions happen.
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Old 10-03-2008, 02:28 PM   #26
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It also doesn't matter if the special tax rates go away. That's a red herring as well. If the special rates go away, then taxes on dividends from stocks will be the same as taxes on dividends from bonds, so you will not hurt yourself if you have tax-efficient index funds in a taxable account. If the lower cap gains tax rates go away, they will still be lower than your marginal income tax rate and you will still benefit from tax efficient stock index funds in your taxable account. Plus you can use your carryover losses to offset the gains anyways.

Like I said, these things thrown in by CFB are simply red herrings and do not affect the outcome of holding only (if possible) tax-efficient investments in taxable accounts.

If you have $5MM portfolio of which only $100K is in tax-advantaged accounts, you are gonna have to have some bonds in your taxable account. They will likely be tax-exempt muni bonds. But if you are like many folks with more assets in tax-advantaged accounts than you have in taxable accounts, then your taxable accounts can be filled with tax-efficient stock index funds while your tax-advantaged accounts will have both tax-inefficient assets like bonds and bond funds as well as tax-efficient stock index funds.
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Old 10-03-2008, 04:28 PM   #27
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I would look at this as one asset allocation. Because you can probably do more with $1 M as a whole than two portfolios of $500k or one $750k and one $250k.

If you have a $1 M whole, you can allocate a small portion (5% or so) to some aggressive investments (emerging markets, commodities, small caps or similar). In addition you have 72t which could be used if you choose to plan around it.

If you need $40k from a $1 M portfolio, and if $250k is in a taxable account, paying 2% dividends ($5000/year), you need 35k withdrawn from the $750k (4.6%) in tax deferred. That could be interest on bonds or similar accessed by 72t. Then you can convert up to marginal bracket to a Roth (so some of the 750k is now tax free).

You then keep the 250k in taxable accounts and just use it to generate interest and provide you with an opportunity to keep tax bracket low enough to do Roth conversions.

If you can increase the portion of portfolio which is taxable (600-400 for example), it makes the Roth conversions easier (less to convert, and less income need to 72t).
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Old 10-03-2008, 04:54 PM   #28
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A whole lot of reaction from you for some perfectly valid 'red herrings'.

Seems like you feel the only way is your way, regardless of someone elses differing needs and situations.

If someone wants to hold a tsm or s&p index as their primary stock holding, there really arent any easy ways to get around the wash sale rule. As far as these huge gains that would avoid any loss sales...my goodness I could have sworn that the OP said that she was just about to start their taxable account. I dont know about you, but it seems to me that sure thing gains in the stock market over the next few years isnt really a sure thing.

And the taxes? Hmm...well...if you want to jury rig something to take advantage of todays tax rules while throwing your losses away, when its a foregone conclusion that the tax laws will render your contraption pointless...that sounds like a swell idea!
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Old 10-03-2008, 06:16 PM   #29
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Okay. I've read the last slew of posts and am going to have to digest it for a while. Accounting and taxes aren't intuitive subjects for me and I'll need some time to re-read the posts and see if I can sort it out.

I do appreciate everyone's efforts to enlighten me.

As a side note, CFB is right -- we don't have a taxable account yet and will be opening one in the next couple of months. Theoretically we'll be buying low -- I hope.

Finally, I suspect that your attitude towards taxes in general probably affects how vehemently you oppose paying them. Me, I like schools, libraries, and fire stations, and I don't mind paying for them. I would like to optimize our chances for ER (which means keeping as much money as we can working for us), but I'm not sure I'm willing to be uber-vigilant about tax-loss harvesting or other processes. We're looking for something that's reasonably straightforward that we can live with -- a balance, shall we say?.
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Old 10-03-2008, 06:44 PM   #30
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I would not buy high yield (junk) bond funds period. The reason is that you should keep your FI in safe investments and take the risk on the equity side. I know most of this post is about whether to put FI in taxable or not but thought I'd interject this thought here since the OP mentioned hi yield bonds. Hi yield has equity characteristics i.e. it's sensitive to equity declines and has reasonable correlation to equities.

See Larry Swedroe's comments on the Boglehead's site as this is basically his take. At some point you will be rewarded for taking the partially equity like risk in high yield -- but then why not just increase your equity allocation and keep the FI in the safer part of the investment spectrum?
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Old 10-03-2008, 06:53 PM   #31
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Quote:
Originally Posted by Urchina View Post
Okay. I've read the last slew of posts and am going to have to digest it for a while. Accounting and taxes aren't intuitive subjects for me and I'll need some time to re-read the posts and see if I can sort it out.

I do appreciate everyone's efforts to enlighten me.

As a side note, CFB is right -- we don't have a taxable account yet and will be opening one in the next couple of months. Theoretically we'll be buying low -- I hope.

Finally, I suspect that your attitude towards taxes in general probably affects how vehemently you oppose paying them. Me, I like schools, libraries, and fire stations, and I don't mind paying for them. I would like to optimize our chances for ER (which means keeping as much money as we can working for us), but I'm not sure I'm willing to be uber-vigilant about tax-loss harvesting or other processes. We're looking for something that's reasonably straightforward that we can live with -- a balance, shall we say?.
Some of this depends on the amounts invested.

My post tax investment strategy is this
1) save 20% of income (using 401ks and Roths)
2) max the 401ks if I exceed 20% savings goal and there is room left (there is now, might not be when income increases)
3) taxable investments/ tax efficiency

If 3) is only around 2k per year added to savings, that money might be most efficiently applied to pay down mortgage or get added to a 529 plan for kids.

because 2k compounded over 18 years is only 80k which is two years expenses. The bang for that buck is not high enough (considering taxes I will pay on compounding). This would easily pay off my mortgage much earlier though.

If 3 is higher (4k) then I see 3 years expenses accumulated and that is high enough to do some FIRE planning. 3-4 years expenses saved maybe. FIRE for me is age 53, so 6 years expenses is my magic number to avoid 72t if I wanted to avoid it (avoiding 72t is not a requirement for me, but I think OP mentioned trying to avoid it earlier).

If I pay off mortgage earlier and instead of 2k compounded for 18 years I look at 30k compounded for 5 years (30k is close to what we pay on mortgage each year) that gets us to having 5-10 years expenses in cash accounts and we only paid high taxes on this money for 5 years. 5-10 years expenses gets us from age 53 to past age 59.5. Works for me.

My thoughts on taxable accounts is to grow them quickly with high contributions as an income source part of larger allocation, not try to keep them around for 10-30 years of w*rking then draw them down quickly in first part of FIRE. Quick accumulation saves on taxes paid.



I have not seen a larger FIRE plan from OP.
  1. How much will be in 401k and Roth accounts when you FIRE?
  2. What age will FIRE be?
  3. What is expected expenses you are targeting to have?
  4. Withdraw rate for FIRE?
I will add the taxable accounts to value at 1) and calculate 4) based on 3 account types (taxable, Roth, tax advantaged using 72t) because that is most tax efficient over long term most of the time I have ran my own numbers.

I would actually prefer to 72t over drawing down taxable accounts using todays tax code. I would prefer to convert tax deferred savings and 72t while using taxable accounts only to supplement the 72t income.
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Old 10-03-2008, 07:02 PM   #32
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See Larry Swedroe's comments on the Boglehead's site as this is basically his take.
Other experts have the opposite opinion, for what its worth.
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Old 10-03-2008, 08:01 PM   #33
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Finally, I suspect that your attitude towards taxes in general probably affects how vehemently you oppose paying them. Me, I like schools, libraries, and fire stations, and I don't mind paying for them.
It's funny you mention this because I just got my property tax bill today with a nice insert about what fraction goes to schools, libraries, fire stations etc. In contrast, none of the taxes on my investments goes to these local entities. My family benefits tremendously from the local taxes because we live near outstanding public schools, so we don't have to put all the kids in private schools. I would pay even more in taxes if it guaranteed that the library would not be closed on Sundays. I have had the EMTs from the firestation come to my house twice to take injured people to the emergency room and it cost me nothing (OK, one of those folks died, but they tried their best).

So pay your taxes, but don't pay more than you need to.

I'm glad CFB agrees with me that he presented red herrings and not valid reasons.
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Old 10-03-2008, 08:24 PM   #34
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Apparently you're aversion to taxes has rendered you unable to recognize sarcasm.
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Old 10-03-2008, 08:29 PM   #35
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No, but I was still able to use sarcasm.
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Old 10-03-2008, 08:33 PM   #36
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Other experts have the opposite opinion, for what its worth.
And this past year has proved them wrong - at least in this environment. There is no free lunch. If the reward is greater it is because the risk is also and in this case it rears its ugly head right when you least need it.

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Old 10-03-2008, 08:39 PM   #37
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If thats the metric, everyone has been proven wrong this year.

LOL, you're a good fellow and frequently have good information. Some people have other ideas about investing and taxation besides running a spreadsheet to minimize the latter.

I like my income producers to produce income I can readily spend, and I like being able to keep my equities largely in my tax deferred accounts where I can move them around without concern for capital gains and volatility. I dont pay very much in taxes. When I was a single ER I paid none for 3 years running. It works for me.

It might work for some other people too.
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Old 10-03-2008, 09:08 PM   #38
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With the flight to quality my gummint bond funds have been my only gainers this past year - except REITs (but that might have changed in the last week I haven't peeked).

I could see how having your equities in tax protected would benefit you if you are "moving them around". For those of us buy and hold types that protection isn't needed. The bottom line is that the answer to some of these questions is that it depends alot on your particular situation.

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Old 10-03-2008, 10:58 PM   #39
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Other experts have the opposite opinion, for what its worth.
Yep, Rick Ferri on the same site will present the opposing case. I just happen to have chosen the side on this issue I prefer. I'm finding that I can sleep better at nights with this approach. Then again, last night was a bummer but why bother you guys with my bad dreams. Also I don't mean to infer that you are wrong for taking another approach but just recognize the risk/reward up front.
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