Asset Allocation of 401k before and after FIRE

[mistershankly]

Hello all, I have been a long time reader/lurker here and have read through some great advice and insight, and I thought I'd throw my current situation out for your thoughts, advice, and critiques.

I am 42 and DW is 41, no kids, debt free (house, cars, etc) and on track to FIRE in about 5-7 years depending on how consistently things grow in our portfolio. I have contributed to a non-matching 401k that carried funds with relatively high costs and little choice. The funds are currently allocated in rough proportion to the Gone Fishin' Porfolio in the best options I could invest in from a relatively terrible selection of funds. My approach has been lukewarm and a bitter pill to swallow but I figured something invested in this tax-advantaged account was better than nothing in the long run. Additionally, these funds could eventually roll over into a Vanguard rollover Roth after I leave the company and be allocated properly. The 401k program itself was a bad implementation by upper management folks who had no clue on personal finance. Fortunately (or unfortunately depending on how you look at it), I have been a member of that upper management team for the past 8 years and my repeated lobbying to get a better 401k program was finally implemented. From October on, our new 401k will have access to a plethora of Vanguard funds with low expense ratios as well as a small, limited matching program. This change has made me rethink my 401k funds in the larger picture of my portfolio.

I am conflicted regarding how to reallocate the funds in the new 401k within the larger picture of FIRE and when I plan on accessing the funds. Specifically, I don't intend on touching the 401k funds for another 20 years, and I have a portfolio set aside (equities, real estate rental cash flow) to cover the 12 or so years between FIRE and having to access the 401k funds. While I understand the need to stay the course on the 401k funds (reallocated to Vanguard funds, of course), I wonder if taking this opportunity when the changeover is being made in the 401k and investing these tax-advantaged funds in a more aggressive 401k portfolio (Total Stock Market, Emerging Markets, International Stock Market in 60/20/20… little to no bonds) may be advisable since it will have 20 years to grow and recover from market fluctuations. At the 10 or 15 year mark, the funds may be rebalanced to a more conservative model (60/40, 40/60, or just all in a balanced fund like Wellesley) depending on our personal, financial situation at the time. Is this too risky (even for my high threshold for risk relative to this segment of my portfolio) and I should have those funds allocated in the same proportion as my near-term, taxable investments (currently, 60/40)?

I've read about investing approaches that model a selection of portfolios depending on when the funds will be accessed (pre-retirement, possible home purchase, post-retirement, etc) and other approaches that invest all holdings based on the same allocation model. I would appreciate your thoughts on this and feel free to tell me I'm crazy with any of my thinking. I can also provide any more details if needed.

Thanks in advance!!

 

[pb4uski]

See Principles of Tax-Efficient Fund Placement - Bogleheads

I think you should do the opposite of what you are thinking of.

Since you are probably now in a relatively high tax bracket, you would want investments whose income is taxed at ordinary rates to be in your tax-deferred accounts since that income will ultimately be taxed at ordinary rates anyway when ultimately withdrawn. Investments whose income is taxed at preferential rates such as qualified dividends and long-term capital gain distributions you would want in your taxable accounts. You also want international stocks in your taxable accounts to take best advantage of the foreign tax credit.

By taking an investment that generates income taxed at preferential rates in a tax-deferred account, you are essentially giving Uncle Sam a gift. If you want to, that is fine, but suspect that you have better outlets for your generosity.

BTW, congratulations in convincing your management to revamp your 401k program.

 

[RockyMtn]

First I would figure the asset allocation you are comfortable with. Then fill the fixed income/bond portion first with funds in your tax advantaged accounts. Remaining room in tax advantaged, if any, then filled with equities. After tax accounts should be filled with your most tax efficient investments.

 

[LOL!]

I also think you should decide on your asset allocation then asset location, then do what they tell you to do in the most tax-efficient way possible.

But to address one of your concerns ....

My take and that of some others is that one's asset allocation can change over time.

In particular, when younger and a number of years away from retirement and still accumulating, one can have more equities.

Also when older and already retired a number of years and decumulating, one knows one doesn't need the portfolio to last as long because you have a better idea of how long you might live. For example, if you are 50, you might live another 45 years if you are lucky, but if you are 75, you are not going to live another 45 years. Thus one can have more equities if they want to.

It is those years plus or minus about 5 years from the year of retirement, where you need to be more conservative. This is because you don't want to lose a chunk of your pie if there is a 50% drop stocks a few months before you retire. Also, studies show that if your portfolio loses substantial value in the first couple of years after retirement, that you really can't dig yourself out of that hole.

So I think you need to reduce risk coasting into your retirement date, then when you see how things have gone, you can increase risk if you want to.

 

[mistershankly]

I hadn't weighed the tax implications on the asset allocation as heavily as you are recommending but doing so has certainly helped in focusing my approach. Thank you for the link and the advice.

As far as convincing everyone on the change, I lost track of the amount of times I spelled out "do you realize how much longer you have to w*rk at your j*b with these fees and crappy returns"... obviously, I was the only one in the room thinking that because I ran into silence and confused looks almost every time

 

[mjgruber]

Don't forget

One mistake people make ( in my opinion ) is they invest the money based on the first day they plan to start using the money, but forgetting they will use those funds over many years. Someone at 50 might say, I am going to start using my assets at 55, so I better be conservative...wrong answer. The right answer is...at 55 I will start to use those funds, and I expect to use those funds for 20, 30, 40 years. Based on 20 to 40 year Horizon, stay invested.