Savings versus retirement investments

[Wormrider]

I'm maxing out my 401K deductions at work and I contribute the max to my IRA account each year. Most of my personal savings is in Mutual Funds. I was recently told that my savings investments should be in low taxable areas whereas since my income for my retirement investments is tax deferred there is less of a concern on taxes.

Do you all agree?

If yes, where would you suggest I place my personal savings?

TIA

 

[walkinwood]

Here's a good paper on asset location - that is, where should assets of different kinds reside.

http://www.irebal.com/docs/AssetLocation.pdf

I think of my savings as emergency savings and retirement savings. My emergency savings are in cash (mmf) or short term investment grade bond funds (vfstx). My retirement savings are distributed among funds/accounts based on my asset allocation.

I hope this helps.

 

[brewer12345]

Just to be clear: what do you mean by personal savings? Non tax-sheltered accounts?

Outside of retirement accounts(IRAs, 401k, solo 401k), we have cash, CDs and a taxable brokerage account that holds everything from investment grade bonds to junk to small cap foreign equities to warrants.

 

[Wormrider]

Just to be clear: what do you mean by personal savings? Non tax-sheltered accounts?

Money that is not in a "retirement account". That is, not in a 401K or a IRA. Part of it is the money I use to pay the bills, repair the house or cars, and in case I have a major emergency.

 

[LOL!]

I am still not clear on what you are asking. You can save for retirement in 401(k), IRA, Roth, and even in a taxable account. You can have your emergency funds in CDs, savings accounts, money market funds, short-term bonds, whatever.

Those emergency funds can even be in your Roth, 401(k) or other tax-sheltered accounts if you have enough equities in non-tax-sheltered accounts. I try to keep no cash in taxable accounts, so I don't pay taxes on the earnings. It's a good method for folks in a high tax bracket with plenty of both taxable and tax-sheltered assets. If you are not in a high tax bracket or if you do not have plenty of taxable assets, then it is not a good technique. It is describe at this link: http://www.bogleheads.org/wiki/Placing_Cash_Needs_in_a_Tax-Advantaged_Account

 

[brewer12345]

While I try to be as tax efficient as possible in my taxable account, its not my first consideration. Far more important are (for emergency savings) liquidity and safety, an (for long term money) the potential after tax returns a given investment can generate. So my commodities exposure and much of my bonds are tax deferred, I do have taxable bonds, a really tax inefficient partnership and other tax-generating assets in my non-retirement accounts for a variey of reasons.

 

[Gone4Good]

What brewer said.

But I think you have it right if I'm understanding your original post. Investments that throw off current taxable income (typically, but not exclusively, bonds) generally belong in your tax deferred accounts. Investments where income can be deferred or is already tax advantaged (such as capital gains and qualified dividends) don't benefit as much from being in a retirement account so they are better allocated to taxable accounts.

Your emergency fund should be held in something that is super safe and super liquid.

 

[teejayevans]

I would invest based on your time horizon of when you will need the money:
0-4 years: money market/cd/short term bond fund
4-10 years: balance funds
10+ years: stock funds
The balance and stock funds can be tax managed funds if in a combined
fed and state high tax bracket.
TJ

 

[Delawaredave5]

Obviously emergency cash should be non-retirement accounts.

Of the rest, I believe the best approach is to:
1. Keep most of your "income producing" asset allocation (bonds, etc) in tax advantaged accounts.
2. If all your retirement assets exceed what you can keep in tax advantaged accounts, keep less-income-producing (stocks) in taxable accounts.

 

[LOL!]

Obviously emergency cash should be non-retirement accounts.

Why? If I keep my emergency cash in a retirement account, what's wrong with that?

 

[Delawaredave5]

Why? If I keep my emergency cash in a retirement account, what's wrong with that?

You pay a penalty for early withdrawals from retirement accounts. Maybe probability of a "real emergency" is low and benefit of tax deferral outweighs possible penalty. And there's exceptions to the penalty.

Early Distribution of IRA, 401K & Other Retirement Accounts - Penalty on Early Distributions

 

[LOL!]

If you are over age 59.5, you do not pay a penalty.

But I am younger than that and keep my emergency fund in tax-sheltered. The reason is that I have a size taxable account of equities. In an emergency, I use a credit card first, then the cash in my checking account. To pay off the credit card, I sell equities out of my taxable account. At the same time, I use my emergency fund (in tax-sheltered) to buy equities. I have the cash in 3 days.

In the meantime, I pay no taxes on my emergency fund money.

This false idea that one needs all 6 months of their emergency fund in 3 seconds is ridiculous. One can keep a little bit of money in taxable, but for job loss and other realistic uses of the emergency fund, one has plenty of time to get at it.

Or can you tell me about an emergency that you needed 6 months of expenses in less than a day?

 

[Delawaredave5]

Or can you tell me about an emergency that you needed 6 months of expenses in less than a day?

I agree with you totally. Original thread topic is taxable vs non-taxable for retirement money. Let's start another thread to discuss emergency cash reserves and strategies.

 

[old woman]

One problem with tax deferred accounts is you will pay taxes at normal rates after retirement. Another is they have a penalty if you take the too soon. I am over 59.5 and have ROTH, 401K and taxable for different reasons.

The ROTH is tax free growth and I don't even need to track basis on investments so nice to be able to not do the bookkeeping. 401K will be the majority of my taxable income after retirement. I need that to take advantage of the non taxable and 10% brackets and itemized deductions if I have any. I would like to pull out 10-15K a year to pay taxes on. That would leave my Social Security tax free. I will need to stop putting in the max paying 15% now so my Social Security remains tax free after RMD. I have about 175K in two weeks when profit sharing goes in. Working 3 more years would put in 66K more plus maybe another 24K in profit sharing so with growth it might hit nearly 300K at 65 and if it grows too fast my RMD might be too much. So I will only put in 10-15K in the next couple of years. Since I am going to start taking it out in 3 years the tax deferral isn't so important as for a young person.

Taxable is great for me, I put in the money after tax and can leave it sit until I need it. When I get some out it is dividends or long term gains at favorable rates. If I cash some in part of my money is growth and some money I already paid taxes on.

I pay 10K each for mutual funds and pay the tax on the 1099 each year and don't reinvest so my basis is always 10K. So if I sell one worth 12K I only pay taxes on 2K and that is long term gain. If I never use the money it has a stepped up basis for the heirs.

401K and IRA are fully taxable after death at ordinary income and if you need to take out 10K you have 10K of ordinary income.

All are good in their own way. ROTH have almost no downside, you can often get back what you put in without a penalty. The only real downside is if you die before you use it you waste the tax you already paid since the taxable would have had a stepped up basis.

I am trying for not more than 250K in 401K and the ROTH maxed out every year and the rest in taxable. Under 55 I would keep a tidy sum in taxable and max the ROTH after putting enough in 401K to get any match and build some taxable income for retirement.

 

[LOL!]

old woman, that's an unusual strategy: Avoid some 401(k) contributions and pay taxes now rather than pay them in the future.

It seems to me that if you are going to pay more taxes now, you'd want the money you are paying taxes on now to go into a Roth IRA rather than into a taxable account.

To that end, I would max deductible 401(k) contributions and instead convert more IRA to Roth IRA. This would get around the annual contribution limit for a Roth. You may not have an IRA to convert, but since you are over 59.5, you may be able to do an in-service rollover of some or all of your 401(k) to an IRA. That rollover IRA could be converted to Roth. You would pay the taxes on the conversion from your taxable accounts.

If your employer offers a Roth 401(k), that would be another possibility, but you did not mention that.

Anyways, I don't know if you have thought of that, but it seems that if you are going to paying taxes, why not get that money into a Roth now instead of only half-way there?

 

[brewer12345]

[quoted material deleted as spam]
Go away spamming sihthead!

 

[Leonidas]

Go away spamming sihthead!

That's the Brewer we love!

Oh this is hilarious, I went to her website and absolutely nothing is free, you have to sign up to get any access. And from the signup box this little gem:

We respect your privacy and do not tolerate spam.

 

[Animorph]

I try to be tax efficient with mutual funds in taxable accounts, such as low turnover, index funds, ETF's. Those accounts are also my "emergency fund". I'll sell equities when I need to. That's quick cash these days. In the mean time I don't have 6 months of cash sitting around doing nothing for 70 years.

 

[BigMoneyJim]

I recently started building up my after-tax savings and had a similar question as to how I want to determine it's asset allocation and whether I want to try to minimize taxes.

Two or three times in the past I've looked at my 401(k) or IRA and considered taking some out for cash flow needs. Fortunately I managed without doing so, but one of my aims is to not need to withdraw from a tax-deferred account early. (I am 39.)

I found this link interesting:

Principles of Tax-Efficient Fund Placement - Bogleheads

But I want my after-tax funds to be less volatile in case I need to spend them, like what Brewer said.

For what it's worth, I decided I might try some tax-efficient strategies, but will not invest in lower-returns tax-managed funds like municipal bond funds.

However after reading what LOL says above I think that's a better idea. All my IRA and after-tax funds are at Vanguard, so I could easily exchange funds as LOL describes.

 

[BigMoneyJim]

Argh...no edit button.

I changed my mind on duplicating LOL's contingency fund structure. I'll keep my several $k in CDs, and then keep some of my after-tax money in tax-inefficient bond funds to lessen volatility in the event I need to access it. Most of my money is in tax-deferred accounts, and there's a point at which complexity and risk of being stuck in a withdrawal limit outweighs the extra bit of tax efficiency.

 

[dessert]

For what it's worth, I decided I might try some tax-efficient strategies, but will not invest in lower-returns tax-managed funds like municipal bond funds.

However after reading what LOL says above I think that's a better idea. All my IRA and after-tax funds are at Vanguard, so I could easily exchange funds as LOL describes.

BigMoneyJim, I actually did put money into "municipal bond Mutual Funds" because I was trying to:

Have low risk with the money
Get some returns more than money markets are paying
Not tie money up in CDs that are also paying low
and...it's tax efficient.

If I am making a mistake here someone set me straight. I know there are no right answers but this doesn't seem to be a bad decision on my part unless I'm missing something.

 

[BigMoneyJim]

BigMoneyJim, I actually did put money into "municipal bond Mutual Funds" because I was trying to:

Have low risk with the money
Get some returns more than money markets are paying
Not tie money up in CDs that are also paying low
and...it's tax efficient.

If I am making a mistake here someone set me straight. I know there are no right answers but this doesn't seem to be a bad decision on my part unless I'm missing something.

It was a personal strategy and judgment call. I don't think tax efficient funds are necessarily a mistake, but some people might try too hard to avoid taxes and might end up with lower overall returns. My tax liabilities aren't worth possibly counterproductive cleverness to avoid. It might make sense in somebody else's portfolio.

 

[dessert]

It was a personal strategy and judgment call. I don't think tax efficient funds are necessarily a mistake, but some people might try too hard to avoid taxes and might end up with lower overall returns. My tax liabilities aren't worth possibly counterproductive cleverness to avoid. It might make sense in somebody else's portfolio.

Yes, I agree. My reasons were that I had money in a money market account that was paying like I had it stuffed into my matress at home.
Just trying to find "something" that would provide dividends without a lot of risk for the money. I think for those reasons, it makes sense for me.
No doubt....everyone's different in what works for them.

 

[freebird5825]

BigMoneyJim, I actually did put money into "municipal bond Mutual Funds" because I was trying to:

Have low risk with the money
Get some returns more than money markets are paying
Not tie money up in CDs that are also paying low
and...it's tax efficient.

If I am making a mistake here someone set me straight. I know there are no right answers but this doesn't seem to be a bad decision on my part unless I'm missing something.

I do the same for my short term (< 5 years) savings AND immediate emergency fund needs.
I'm still accumulating albeit FIREd with a steady fixed income (not an ordinary situation) at age 51.
I like the "lower risk" and moderate return aspects of munis versus other choices and have instant checkwriting privileges with clearing in 3 business days.
So I use TE muni bond mutual funds to get some nice 30 day interest payments while I do ongoing DCA into same funds.
If inflation kicks in and clobbers me, I have something to tap into in the short term and can avoid messing with my long term retirement portfolio.
Call me crazy , but it w*rks for my situation.

 

[dessert]

I do the same for my short term (< 5 years) savings AND immediate emergency fund needs.
I'm still accumulating albeit FIREd with a steady fixed income (not an ordinary situation) at age 51.
I like the "lower risk" and moderate return aspects of munis versus other choices and have instant checkwriting privileges with clearing in 3 business days.
So I use TE muni bond mutual funds to get some nice 30 day interest payments while I do ongoing DCA into same funds.
If inflation kicks in and clobbers me, I have something to tap into in the short term and can avoid messing with my long term retirement portfolio.
Call me crazy , but it w*rks for my situation.

Yes, I'm doing the same with that money. I have a different risk factor for the non-qualified account than I do for the 401K. If the 401k goes down I consider that long term investing norm. The after tax account is money that I have already been taxed on and I really don't want it going down as much. I plan to spend it down in retirement and perhaps not touch the 401K (much).
I enjoyed seeing your picture by the way. I'm too chicken to do that.