Taxable vs. tax-advantaged

[kyounge1956]

Do the advantages of a taxable account (tax loss harvesting, lower tax rate on capital gains) ever outweigh the advantages of tax-advantaged accounts? All of my retirement savings are currently in either a tax-deferred account at w@rk, or my Roth IRA, and I wonder if some of my savings shouldn't be going into a taxable account instead.

I asked this question at Bogleheads too, but just for the fun of it I think I'll add a poll here. What proportion of your savings are in taxable accounts, Roth, and tax-deferred? Do you like your split, or would you like to change it?

 

[Onward]

I have somewhat more in taxable than tax advantaged. It's just the result of what I was able to contribute to each category along the way.

Taxable accounts can fund a very-early retirement, which is why I worked hard to build them up (after maxing out tax-advantaged contributions).

 

[Animorph]

Roughly equal tax deferred and taxable, with a smaller but growing Roth balance. Currently all going into tax deferred to try to keep income low enough for some tax credits. Basically a haphazard allocation, and not always a lot of choice. I always picked up the company match in 401k's and have stuffed as much into Roth's as I can when available and eligible. I'll convert more when DW finally retires and our income zeros out for a while. Stock options led to the large taxable account.

I expect to pretty much deplete the taxable accounts within about 10 years due to Roth conversion taxes and living expenses, then I guess I'll be more or less equal balances in tax deferred/Roth and not much taxable.

 

[kyounge1956]

Hi Moderators, I think I got a little too specific with the poll options. Can you change the 3rd, 4th & 5th options from "more ___ than the other two combined" to just "mostly ___"?

 

[kumquat]

I voted other. While I have about 3 times as much in taxable accounts vs. non-taxable, I suspect different tax laws apply. What's a Roth?

 

[Rustward]

Answered about evenly split. We are 46/54 -- taxable / tax-advantaged. Generally we maxed out the tax-advantaged contributions (with a few minor exceptions) and tried not to spend the rest.

 

[DblDoc]

We are at close to 50:50. We max out tax deferred and then contribute to taxable. By the time I retire taxable will be about double our tax deferred. Assuming you have reasonable choices in your tax deferred accounts the usual rule of thumb would be to max those before contributing to a taxable account.

DD

 

[samclem]

Approx:
25% Taxable
35% Tax-deferred 401K
40% Roth IRA

In our case, I think spreading things out this way gives us good options to flex with future changes in the tax code and with varying levels of earned income I happen to generate.

 

[kyounge1956]

We are at close to 50:50. We max out tax deferred and then contribute to taxable. By the time I retire taxable will be about double our tax deferred. Assuming you have reasonable choices in your tax deferred accounts the usual rule of thumb would be to max those before contributing to a taxable account.

DD

That's what I've heard too, but I wonder if the rule is a good one. So much of what "everybody knows" isn't really so.

There are also rules concerning which asset classes should go in which type of account. If it makes sense to put equities in a taxable account, assuming you already have one, wouldn't it make sense to start a taxable account to put them in if you don't have one yet? The thing is, I don't have enough money available to start a taxable account in addition to maxing out tax-advantaged savings. But I could do something like maxing my ordinary contributions, and putting some or all of the over-50 catchup contributions into a taxable account.

 

[Finance Dave]

I'm mostly tax deferred but mainly that's because I've been in a high tax bracket most of my life. The past 10 years I've been pumping up the Roth. It's nice to have money in both. My strategy is to take out just enough from the tax deferred each year to stay in the 15% bracket, then take any more than that from the Roth/after tax bucket.

 

[snodog]

The thing is, I don't have enough money available to start a taxable account in addition to maxing out tax-advantaged savings.

That describes our situation. We're 100% tax advantanged and don't feel the need to ever have any taxable. Planning on using the roth for a few years of early retirement if we have too. If this is not a good plan I'de like to know.

 

[NW Landlady]

I make too much $$ to have a tax advantage (Ira) account anymore (just some measly IRA from my youth still lingers).
Most of my investments are TAX FREE Muni bonds....SIGH!

 

[harley]

We're about 30% in tax advantaged accounts, the rest taxable except a tiny amount in Roths. I'm going to be moving more of the TA money to Roths over the years as decided by my tax bracket and the likelyhood of tax increases. One of my main retirement hobbies is keeping my cash out of the government's hands, although I try not to let the tail wag the dog too much. But if I can transfer after tax dollars that were invested at 28% into tax free dollars while paying 15% on them, that's fun for me. Plus I like the illusion of control.

 

[Rich_by_the_Bay]

Probably about 15% post-tax overall, most of which was generated in my latter years of employment. Lower expenses, higher income, and better discipline enabled us to max out the tax-advantaged opportunities and you've got to put the left-overs somewhere.

 

[BTravlin]

That describes our situation. We're 100% tax advantanged and don't feel the need to ever have any taxable. Planning on using the roth for a few years of early retirement if we have too. If this is not a good plan I'de like to know.

We're about 95% tax advantaged. The only thing that bothers me about this is that a withdrawal will usually generate a tax liability which could result in the need for another withdrawal. Looks to be a nasty cycle. Some funds in taxable accounts might come in handy.

 

[SunsetSail]

20% Taxable/80% Tax Advantaged

The numbers have always played out that tax advantaged contributions should come first and if you account for matching contributions, profit sharing, etc. the amounts grow fast for those accounts.

I would rather have a higher taxable allocation given the uncertainity about future tax laws and how changes will affect rates, withdrawals, etc.

My current taxable contributions are much higher than tax advantaged, but the tax advangtaged have already reach a certain level of critical mass so their organic growth is pretty high and it is difficult to materially change the allocation by contributions.

 

[Meadbh]

I voted Other because I live outside the US and the poll descriptions are not applicable. I am about 50:50. I have a professional corporation into which most of my income goes. This facilitates deferral of taxes while retained earnings (hopefully) grow. Unfortunately taxes have to be paid eventually, which is why it's good to have a stash of savings that have already been (income) taxed and won't be again, except for capital gains, dividends and income earned on them. My "taxable" accounts are skewed towards equities as capital gains are taxed at the lowest rate, and my tax deferred accounts are skewed towards fixed income.

To answer Kumquat's question, a Roth is like a TFSA (surely a great invention!).

 

[MichaelB]

All taxable here. Lived and worked outside the US. I was able to contribute to a defined contribution with a company match - type program when I worked but the IRS did not consider that eligible for rollover so I had to declare - and pay - on lump sum withdrawal when I left work.

 

[DblDoc]

That's what I've heard too, but I wonder if the rule is a good one. So much of what "everybody knows" isn't really so.

There are also rules concerning which asset classes should go in which type of account. If it makes sense to put equities in a taxable account, assuming you already have one, wouldn't it make sense to start a taxable account to put them in if you don't have one yet? The thing is, I don't have enough money available to start a taxable account in addition to maxing out tax-advantaged savings. But I could do something like maxing my ordinary contributions, and putting some or all of the over-50 catchup contributions into a taxable account.

Unless the tax laws are changed markedly it still makes sense. For early retires who are not forced (by limits on tax deferred accounts) to have anything in a taxable account it may make sense to have some. As BTravlin alluded to it may allow you in some years to squeak by in a lower tax bracket by reducing withdrawals from your tax deferred accounts.

The rules for asset location are predicated on having to use both tax advantaged and tax deferred accounts. If I had enough tax deferred space I would put my equities in there also but that is filled with bonds.

DD

 

[MichaelB]

Why not have fixed income in munis and use the tax deferred accounts for equity investments? Seems to me some folks wanting to sell in the '98 - '00 and '07 timeframe chose not to do so because of the capital gains. In a buy and hold for the long term it makes sense to hold the equities in a taxable account, but at the same time reducing equities when prices are high is painful and often postponed.

 

[rescueme]

IMHO your taxable/tax deferred account breakdown is just a reflection of your age along with the "products" available along the way.

My DW/me did not start investing for retirement till our mid-30's, in the early 80's, when our respective company pensions (defined benefit) were replaced with the 401(k). For me, it was a 100% match, up to 8%. Of course that was reduced years later, but it was a good incentive to hop on the 401(k) train.

We both contributed the annual max (according to IRS rules) from 1982 into our respective IRA's which consisted in deductable, non-deductable, and Roth - as they changed through the years. Our final IRA contribution was made in 2008. I retired in 2007 (my DW still w*rks) but it didn't make much difference in our retirement income plan, so we stopped. DW still contributes to her 401(k).

The majority of our retirement investments are in tax deferred accounts. However it is expected that we will not be close to exhausting those accounts in retirement. From a tax view, we don't have to pay state/local tax on our tax-deferred accounts. Taxes were paid at time of contribution, and earnings are tax-free. Additionally, since we plan to have most of our remainder estate going to charity and assuming the tax laws are not radically changed, it will mean that most of the tax deferred funds will be passed on with little/no tax due. It makes little sense to actively convert them to Roth accounts (of which we also have). As we age, we may change the "normal withdrawal sequence" by drawing down from the Roth in those years that we fell our excess RMD's (excess contributions, required by tax law, but not needed for annual income). Again, that will push tax deferred funds to our charities. If the tax laws change? We won't be around to worry about it...

 

[ESRwannabe]

I have about half in taxable and half in my 401k and roth ira.

I am maxing my roth ira every year and maxing out my 401k match (which is tiny). I could put a lot more into my 401k, but I don't want to until my taxable stock dividends hit $10k per year. At that point I will start maxing my 401k.

The primary benefit I see with a taxable account is that the money is always available. If I had $10k in supplemental income I would feel a lot more financially secure. So, that is my current goal.

An overlooked benefit to the 401k is that it has protection from bankruptcy and lawsuits. The roth ira has protection from bankruptcy and for lawsuits it depends on state law.

I am all individual stocks and cash in taxable, and bond funds in my 401k (total bond index) and roth ("high quality" junk bonds, i.e. BB credit rating).

 

[DblDoc]

Why not have fixed income in munis and use the tax deferred accounts for equity investments? Seems to me some folks wanting to sell in the '98 - '00 and '07 timeframe chose not to do so because of the capital gains. In a buy and hold for the long term it makes sense to hold the equities in a taxable account, but at the same time reducing equities when prices are high is painful and often postponed.

Because the returns on munis is lower and you get to compound that extra return tax free if it is in tax deferred. Over the long term that adds up.

With tax loss harvesting I have plenty of losses to cover any selling I would be forced to do short term for an emergency. Otherwise rebalancing is done with new money. I haven't figured out the distribution phase yet. That looks much harder than the accumulation part .

DD

 

[MichaelB]

Because the returns on munis is lower and you get to compound that extra return tax free if it is in tax deferred. Over the long term that adds up.

But that would only make a difference if the tax rate implicit in the muni were higher than the tax rate you are paying. If your marginal rate is close to the top, there should be no difference.

With tax loss harvesting I have plenty of losses to cover any selling I would be forced to do short term for an emergency. Otherwise rebalancing is done with new money.

Right. You can’t harvest a loss in a tax deferred account. In addition, in the early years, new money has a strong rebalancing effect.

In the later years – say the third and fourth decades of tax deferred investing, the accrued gains are a substantial portion of the total. Here I would think it would be quite more beneficial to have allocated to the tax deferred accounts the assets with greatest gain potential. If the asset value does decline, so does the tax liability. Also, rebalancing and changes in allocation can be done without tax liability.

I haven't figured out the distribution phase yet. That looks much harder than the accumulation part

I think the hardest part is the one each of us are currently working on ...

 

[jIMOh]

Do the advantages of a taxable account (tax loss harvesting, lower tax rate on capital gains) ever outweigh the advantages of tax-advantaged accounts? All of my retirement savings are currently in either a tax-deferred account at w@rk, or my Roth IRA, and I wonder if some of my savings shouldn't be going into a taxable account instead.

I asked this question at Bogleheads too, but just for the fun of it I think I'll add a poll here. What proportion of your savings are in taxable accounts, Roth, and tax-deferred? Do you like your split, or would you like to change it?

My approach (while w*rking) is this:

1) Invest in 401k to get tax return to 15% bracket
1a) there is an HSA involved too
so its really HSA+401k enough to get 15% tax bracket
HSA is maxed, 401k is not

2) Invest in Roth accounts once in 15% bracket. Right now these are maxed, as income goes up, 401k will increase and Roth's will decrease. Wife has a Roth 401k and 2011 will be first year we use only Roth 401k for wife (in July I switched it from traditional to Roth for 8% of her pay... in years past it was 6% traditional and 2% Roth).

We are usually within $1000-$3000 of the 15% bracket cap for taxable income.

3) Invest in taxable accounts once in 15% bracket
We have never had this much money available to invest (yet).