Tax efficiency vs. volatility balancing

[Curmudgeon]

Let's say I have both a taxable and tax-deferred accounts, of (roughly) equal value. I'm currently retired, age 55, and (hopefully) won't draw from tax-deferred until RMDs.Tax-efficient strategy would have me put most of my equities in the taxable account, to benefit from CG/QD tax rates that I can't get in the tax-deferred, and fill the deferred accounts with less efficient stuff - e.g. bonds.

However, the fact that I will be taking withdrawals from my taxable account in the near-term (and thus need less volatility), and the tax-deferred accounts are long-term at this point, biases me towards doing the opposite.
I suppose a balance could be to keep just as much stable-value stuff in my taxable in order to weather a market downturn, and fill the rest of it with equities. This requires a bit of timing, however, to figure out how to maintain the right number of each at a given point in the market cycle.

Any other thoughts? Are there asset classes I'm missing that could help me resolve this?

 

[43210]

Classic solution.
"Placing cash needs in a tax-advantaged account"
https://www.bogleheads.org/wiki/Placing_cash_needs_in_a_tax-advantaged_account

 

[Curmudgeon]

Well, that's so simple that it seems obvious in retrospect. But I missed it completely.
Thanks for the pointer!

 

[sengsational]

That's been my approach...never worried too much about having "too much volatility" in the money I might need to spend in a hurry because of that.

The way I figured it, I would be selling the after-tax more volatile position back to myself, inside of the IRA. So as long as you're keeping your asset allocation such that an emergency expenditure is covered by a non-volatile asset class, it shouldn't matter the tax category. Of course, it could have a tax consequence (capital gain or loss).

 

[USGrant1962]

Classic solution.
"Placing cash needs in a tax-advantaged account"
https://www.bogleheads.org/wiki/Placing_cash_needs_in_a_tax-advantaged_account

Good stuff. This concept is really helpful to me because, as an early retiree, I'm over-deferred with about 75% in tax advantaged accounts. I've always understood that AA is across the whole portfolio, but the example in the wiki helps a lot with my worries about selling my taxable stocks/stock mutual funds in the face of a market decline. If I have to sell low on the taxable side, I can always rebalance and buy low on the tax-deferred side. Cool.

 

[pb4uski]

+1 here. I sell taxable account equities to raise cash for spending and then in my tax-deferred accounts I sell bonds and buy stock as required to rebalance. Maximizes tax-efficiency (my investment tax rate is actually negative) but keeps the AA I want.

 

[Curmudgeon]

After thinking about this a bit more, I realize it's not a perfect solution. Let's say I have equities in my taxable account, and cash in my deferred. I need some cash, but the stock market is way down (a typical situation where I would NOT want to take withdrawals by selling stock). So, I sell stock, and use the cash in my deferred account to buy something similar. So far so good.

But now, I have cheap stock in my deferred account, and when the market comes back the capital gains will no longer have preferred tax treatment.

The only solution I see is to somehow come up with some cash in my taxable account, before the market rebounds, and perform the opposite maneuver. That may have been possible during my accumulation phase, but not so much during withdrawal phase.

So this strategy works well in a bull market, not so much in a bear.

 

[pb4uski]

No, works equally well in both.

Forget about cash in the IRA... keep your cash in taxable along with equities.

The periodically sell equities to replenish cash in taxable account and sell bonds and buy equities in tax-deferred accounts to rebalance.

Even if equities are down when you sell, by selling bonds and buying equities in the tax-deferred account you are really not selling equities at all... you are selling bonds to raise cash because the two equity tades offset.

 

[Curmudgeon]

Yes - but every time you "buy equities in tax-deferred account", you are putting those equities in a disadvantageous position - you will not be able to benefit from lower LTCG tax rates.

For an ideal solution, I would like to (1) maintain AA within some range, (2) pay the preferential tax rate on any LTCG/QD, and (3) avoid selling equities during a bear market.
I'm not saying there IS an ideal solution - and maybe that's by design.

 

[N02L84ER]

You are retired and 55. Between now and when you start collecting SS is an ideal time to do Roth conversions. If you have 100% stocks in taxable and stocks+bonds in a traditional IRA (TIRA) then you sell enough taxable stocks to fund one year of expenses. Most of the taxable gain will probably be long term and taxable at 0 - 15% unless you are collecting a good pension. Selling will probably throw off your AA. So, in the TIRA, you sell bonds and purchase stocks and your AA is back in balance. If stocks plummet during the year, you do a Roth conversion of TIRA bonds to Roth stocks to (1) purchase the "cheaper" stocks in a retirement vehicle that never taxes the rebound gains, (2) rebalance the AA, and (3) you are a tax efficient winner. If stocks don't plummet, you convert TIRA stocks to Roth stocks by the end of the year to move future gains to a nontaxable vehicle and keep your AA. Since stocks are up more years than they are down, eventually you may have converted all TIRA stock to Roth stock. This procedure allows you to (1) maintain AA, (2) have the preferential tax rate (taxable & Roth) on all LTCG/QD, and (3) make the most of selling equities during a bear market by Roth converting (buying) depressed stocks.
HTH

 

[pb4uski]

Yes - but every time you "buy equities in tax-deferred account", you are putting those equities in a disadvantageous position - you will not be able to benefit from lower LTCG tax rates. ....

Yeah... so what? If you don't buy equities in a tax-deferred account then you are increasing equities as a % of your total retirement assets.... in a downturn that could blow up in your face a lot more than the difference between ordinary rates and capital gains rates.... focus... keep your eye on the ball.

Remember... pigs get fat... hogs get slaughtered.