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Old 01-28-2020, 09:05 PM   #21
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Looks like you added a question after I posted.

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Originally Posted by pb4uski View Post
Or $500 stocks in tIRA and $500 bonds in Roth. Then what is his AA?
In this case, his effective AA would be 44/56. He has a spendable 0.8*$500 in tIRA, and another $500 in Roth, for a spendable total of $900. Of this, ~44% [which is 0.8*$500/(0.8*500+500)] is in stocks, and the spendable remainder is in bonds.

And, by the way, his spendable pot of money responds to market changes in just the way that a 44/56 pot that is held all post-tax (or all in Roth or all in tIRA) would.
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Old 01-28-2020, 09:34 PM   #22
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So while in all cases he has $1,000 in total investments and $500 of stocks and $500 of bonds, depending on the placement of his stocks and bonds his AA can range from 45/55 to 55/45 based on a calculation that integrates deferred taxes with AA.
  • $500 stocks in Roth and $500 bonds in tIRA = AA of 55/45
  • $500 bonds in Roth and $500 stocks in tIRA = AA of 45/55
  • $250 stocks and $250 bonds in Roth and $250 stocks and $250 bonds in tIRA = AA of 50/50
Can we agree that in all 3 cases his overall investment risk is no different since he has $500 of stocks and $500 of bonds?
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Old 01-28-2020, 09:54 PM   #23
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I don't agree with that.
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Old 01-28-2020, 10:03 PM   #24
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I'm speechless.
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Old 01-28-2020, 10:11 PM   #25
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Your turn to do the math.

Take 3 scenarios, a bull market,average market,and a downturn. Over a few years,the stock market
1) doubles
2) goes up 20%
3) loses 10%

The bonds return 4% in all cases.

At the end of this period you withdraw from each IRA and pay the taxes.

What is the return on each of your 3 cases for each of the above scenarios?
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Old 01-28-2020, 11:22 PM   #26
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1. $500 stock doubles to $1,000, $500 bond increases to $585, total of $1,585 before taxes.... and I'll assume Roth conversion rather than withdrawal for simplicity.
  • $500 stocks in Roth and $500 bonds in tIRA = AA of 55/45 increase to $1,000 stocks in Roth and $585 in bonds in tIRA.... resulting in $117 in taxes and $1,468 in Roth
  • $500 bonds in Roth and $500 stocks in tIRA = AA of 45/55 increase to $585 bonds in Roth and $1,000 in tIRA, resulting in $200 in taxes and $1,385 in Roth
  • $250 stocks and $250 bonds in Roth and $250 stocks and $250 bonds in tIRA = AA of 50/50 increase to $500k stocks and $293 bonds in tIRA and $500 stocks and $292 bonds in tIRA, resulting in $158 in taxes and $1,427 in the Roth.

2. $500 stock increase to $600, $500 bond increases to $585, total of $1,185 before taxes.... and I'll assume Roth conversion rather than withdrawal for simplicity.
  • $500 stocks in Roth and $500 bonds in tIRA = AA of 55/45 increase to $600 stocks in Roth and $585 in bonds in tIRA.... resulting in $117 in taxes and $1,068 in Roth
  • $500 bonds in Roth and $500 stocks in tIRA = AA of 45/55 increase to $585 bonds in Roth and $600 in tIRA, resulting in $120 in taxes and $1,065 in Roth
  • $250 stocks and $250 bonds in Roth and $250 stocks and $250 bonds in tIRA = AA of 50/50 increase to $300k stocks and $293 bonds in tIRA and $300 stocks and $292 bonds in tIRA, resulting in $118 in taxes and $1,067 in the Roth.

3. $500 stock decrease to $450, $500 bond increases to $585, total of $1,035 before taxes.... and I'll assume Roth conversion rather than withdrawal for simplicity.
  • $500 stocks in Roth and $500 bonds in tIRA = AA of 55/45 increase to $450 stocks in Roth and $585 in bonds in tIRA.... resulting in $117 in taxes and $918 in Roth
  • $500 bonds in Roth and $500 stocks in tIRA = AA of 45/55 increase to $585 bonds in Roth and $450 in tIRA, resulting in $90 in taxes and $945 in Roth
  • $250 stocks and $250 bonds in Roth and $250 stocks and $250 bonds in tIRA = AA of 50/50 increase to $225k stocks and $293 bonds in tIRA and $225 stocks and $292 bonds in tIRA, resulting in $103 in taxes and $932 in the Roth.

However, return in all scenarios is the same as the $1,000 increases in value to $1,585, $1,185 and $1,035, for scenarios 1, 2 and 3 respectively... resulting in returns of 16.59%, 5.82% and 1.15%, respectively. The investment risk is the same as well.

However, the placement of assets for tax efficiency results in different after-tax values, as would be expected.... IOW, the different terminal values after taxes are a consequence of differences in tax efficient placement and not AA.
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Old 01-28-2020, 11:32 PM   #27
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Take 100 financially savvy professionals.

Say to them at the beginning of the year you have $100 in a Roth IRA and it grows to $120 at the end of the year and there are no contributions or withdrawals, only reinvested income.... what is your investment return? They'll answer 20%.

Now say to the... a little different scenario... at the beginning of the year you have $100 in a regular IRA and it grows to $120 at the end of the year and there are no contributions or withdrawals, only reinvested income.... what is your investment return? They'll answer 20%.

And in both cases they are right. And Vanguard and Fidelity and any other firm is going to report a return of 20% in those circumstances.

And when we report returns in the YTD returns thread we do the same thing... whether the money is taxable, tax-deferred or tax-free doesn't impact the return.
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Old 01-29-2020, 06:41 AM   #28
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Quote:
Originally Posted by pb4uski View Post
Can we agree that in all 3 cases his overall investment risk is no different since he has $500 of stocks and $500 of bonds? [Emphasis added.]
But you asked about investment risk, not about the semantics of "effective AA" vs. "tax efficiency of location" vs. calculating returns.

In 1944, the top tax rate was 94%. Hypothetically, let's say our operative tax for this example is 95%.

Do you really feel that a person with $500 stocks in Roth and $500 bonds in tIRA bears the same investment risk as someone with $500 bonds in Roth and $500 stocks in tIRA?
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Old 01-29-2020, 07:24 AM   #29
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Even simpler, convert the IRA to a different Roth,paying the taxes but not changing the investment in your 3 cases. Suddenly you went from 50 /50 in all 3 cases to 44/56, 50/50 and 56/44.
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Old 01-29-2020, 07:32 AM   #30
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Quote:
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But you asked about investment risk, not about the semantics of "effective AA" vs. "tax efficiency of location" vs. calculating returns.

In 1944, the top tax rate was 94%. Hypothetically, let's say our operative tax for this example is 95%.

Do you really feel that a person with $500 stocks in Roth and $500 bonds in tIRA bears the same investment risk as someone with $500 bonds in Roth and $500 stocks in tIRA?
Yes, invesment risk doesn't change because it isn't necessarily true that the person's tax obligation will be satisfied with tIRA money which is what this construct presumes.

Let's switch it slightly and substitute Taxable for Roth and that there are no tIRA withdrawals but only Roth conversions. Since we commonly suggest that when one does Roth conversions that the taxes should be paid with taxable funds, does that mean that the adjustment should be made to the Taxable account rather than the tIRA?

Since there is nothing that dictates that taxes on tIRA withdrawals or on Roth conversions be paid for by the tIRA and in fact such taxes are often paid by non-tIRA sources, it doesn't make sense to presume that the tIRA will pay for the tax... the tax is a general obligation of the individual and is paid for with all the individuals resources. While tax placement affects the tax that will be due, it doesn't affect the overall asset allocation.

But, I've had enough of this silliness.... I'll just agree to disagree from here.
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Old 01-29-2020, 07:46 AM   #31
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Quote:
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But, I've had enough of this silliness.... I'll just agree to disagree from here.
Ha! I had reached the same conclusion, even before I got to this closing line! Great minds...

My goal was to help the OP, who had an earnest question.
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Old 01-29-2020, 07:58 AM   #32
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OP's question was timely for me as I was going through the same thought process when I came upon this thread. A little Googling resulted in multiple articles which recommended the same approach: if you have room in your tax-advantaged accounts for stocks once the bond allocation is filled, prefer Roth for stocks for the reasons stated above. Thanks to those who responded and confirmed the conclusion I had also reached. I just finished placing my trades.
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Old 01-29-2020, 08:43 AM   #33
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It is a more interesting discussion than I thought at the outset. I continue to view AA as not being directly impacted by taxes.

I have never heard anyone speak of a "tax-adjusted" AA. Instead, I think it remains a question of where certain types of assets are best held for tax efficiency.

Presumably the tax adjustment crowd would wish to hold the riskiest assets in regular 401ks and IRA's, to take advantage of the implicit government subsidy of the higher risk of loss.

Safer assets such as bonds would go in the Roth. Is that how you folks see it?
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Old 01-29-2020, 09:56 AM   #34
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This may be relevant to the thread topic. I spent time last year adding some graphs to the Google Sheet that tracks my retirement picture. Here's the current graph showing the breakdown of asset classes, where they are held (tax-free/Roth or tax-deferred/traditional accounts). Green columns are Roth, red are traditional.

I'd like to eventually have the green columns on the left, red on the right. Bond funds are all on the right of this graph.
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Old 01-29-2020, 01:41 PM   #35
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Quote:
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It is a more interesting discussion than I thought at the outset. I continue to view AA as not being directly impacted by taxes.

I have never heard anyone speak of a "tax-adjusted" AA. Instead, I think it remains a question of where certain types of assets are best held for tax efficiency.

Presumably the tax adjustment crowd would wish to hold the riskiest assets in regular 401ks and IRA's, to take advantage of the implicit government subsidy of the higher risk of loss.

Safer assets such as bonds would go in the Roth. Is that how you folks see it?
No, I (like most) prefer to keep the assets with the highest expected return in Roth. I am more interested in maximizing my gains than minimizing my losses. However, I am merely noting that this location increases my risk along with increasing my expected after-tax gain.

In fact, here is an explicit line from my Investment Policy Statement, written nearly two decades ago:

Keep Roth IRA completely in equity, maximizing expected after-tax returns (and taking on a bit more risk).
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Old 01-29-2020, 02:02 PM   #36
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I had originally said:

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Originally Posted by Out-to-Lunch View Post
I would favor placing the equities in the Roth, and the bonds in tIRA, for the reasons pb4uski presents. But, in this scenario, you must accept that this is NOT a 50/50 allocation.
Upon further reflection, this discussion may have been smoother if I had instead said:

"But, in this tax-efficient scenario, you must accept that the risk to the after-tax value of your portfolio is larger than you might naively think for a 50/50 allocation."
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Old 01-29-2020, 02:24 PM   #37
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Quote:
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No, I (like most) prefer to keep the assets with the highest expected return in Roth. I am more interested in maximizing my gains than minimizing my losses. However, I am merely noting that this location increases my risk along with increasing my expected after-tax gain.

In fact, here is an explicit line from my Investment Policy Statement, written nearly two decades ago:

Keep Roth IRA completely in equity, maximizing expected after-tax returns (and taking on a bit more risk).
I agree with the approach, but your views on allocation made me wonder if you also viewed this differently.
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Old 01-29-2020, 03:47 PM   #38
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My tIRA is all bond funds. I don't invest in anything i think has a greater chance to lose money than gain. I follow the Bogleheads advice on investment placement.
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