How do people set up their allocations?

[SoReady]

Hi,

I recently went to see my fee only adviser. I do this every couple of years to get input. I think she struggles with my low ER philosophy, but I usually get a nugget or two that is worth the review.

My current portfolio consist of my old 401k, IRA and Roth. My wife just has IRA and Roth. I currently put most, if not all, bond type funds in the IRA portfolio with the Roth's consisting of stock funds. I did this mostly out of reading through this forum. I do have to admit that when trying to rebalance, or even initially balancing with this set up it was difficult.

My adviser has suggested that I stick to my allocation % withing each of the IRA's, Roth's and 401k. Her argument is that it makes withdrawing and balancing going forward much easier. I tend to agree.

Here is my dilemma. In order to do this I will need to consolidate some of the IRA's on my wife's side. She has some in Fidelity, but most in Vanguard. The other issue is that I would then have a % bond allocation within a Roth IRA portfolio.

So I am wondering if most people set up their target allocation across all of the 401k, IRA and Roth's or do you set up your allocation within each e.g. 401k, IRA, Roth, such that each has the same allocation ($Lg cap, %Med Cap, % Intl, %Bond, etc)? If you find an advantage of one way over the other, what is it?

Thanks,

Bob D

 

[Midpack]

In my opinion your FA is giving you bad advice. I look at all my accounts as one big portfolio with "target allocation across all accounts" (401k, IRA's, Roth's, taxable, etc.) to use your term. Using your AA in each account is just needless complexity IMO. Where each holding is depends on tax efficiency. Here is a good explanation and graphic.

https://www.bogleheads.org/wiki/Tax-efficient_fund_placement

 

[gayl]

I consolidated all like accounts (IRAs) then look at the whole picture, not parts. Therefore it's:

IRA (moved 457 here): SCHA, SCHB, SCHF, SPY - All stock indexes

Roth: SCHB (total stock market index)

Legacy: SCHB, SCHF, PWZ (nontaxable CA munis)

Brokerage: individual stocks / bonds / options

USAA : cash

But when Schwab page combines all 4, I'm 70% stock, 15% bond, 15% cash

 

[SoReady]

Thanks Midpak for the illustration. It was that type of input that made me change my portfolio a bit to be sure bond funds were NOT in a Roth.

But I guess where I'm struggling is that I don't get taxed on anything I have in a Roth, so what does it matter if it is a bond fund or not? If I take money out of a Roth it is tax free.

And I believe that anything I take out of an IRA is taxed as ordinary income - correct? So whatever happens within these two areas doesn't really matter it is just how they are handled during withdrawal; one is tax free and the other is taxed as ordinary income.

As for a taxable account I understand there are tax implications in what is held there e.g. REITS, bonds, etc

Bob D

 

[RunningBum]

In my opinion your FA is giving you bad advice. I look at all my accounts as one big portfolio with "target allocation across all accounts" (401k, IRA's, Roth's, taxable, etc.) to use your term. Using your AA in each account is just needless complexity IMO. Where each holding is depends on tax efficiency. Here is a good explanation and graphic.

https://www.bogleheads.org/wiki/Tax-efficient_fund_placement

+1. Why is it so hard to do this? If you strive for the same allocation in each type of account, doesn't that mean you have to do some shifting around in every account to get them all back in balance?

If you keep it as you have it, with bonds in tIRA and stocks in Roth, and you are withdrawing from the tIRA, you probably find yourself overweight in stocks. It's a pretty simple spreadsheet to show your allocations across all your funds. All you have to do is shift some of the stocks in the Roth to bonds until they balance. If it had gone the other way, you could just shift some bonds to stocks in the tIRA. I just don't understand why this is complicated at all, and it puts the investment types in the most efficient places, as the bogleheads link and chart above shows.

 

[RunningBum]

Thanks Midpak for the illustration. It was that type of input that made me change my portfolio a bit to be sure bond funds were NOT in a Roth.

But I guess where I'm struggling is that I don't get taxed on anything I have in a Roth, so what does it matter if it is a bond fund or not? If I take money out of a Roth it is tax free.

And I believe that anything I take out of an IRA is taxed as ordinary income - correct? So whatever happens within these two areas doesn't really matter it is just how they are handled during withdrawal; one is tax free and the other is taxed as ordinary income.

As for a taxable account I understand there are tax implications in what is held there e.g. REITS, bonds, etc

Bob D

Over time stocks will do better than bonds. If you have stocks in the tIRA you pay tax on the original deferred amount + the gains. So, you'd rather have your more likely gainers in the Roth where they will never be taxed, as opposed to the tIRA where they eventually will be.

Say you start with $100 in each account, and want 50/50 AA. You make 2% on bonds and 10% on stocks. not typical returns but not far off from recent. Would you rather have $102 in the Roth and $110 in the tIRA, or vice versa? I'd rather have the larger amount in the account that will never be taxed.

 

[SoReady]

Thanks Runningbum. Your example I think helps me. Essentially by having bonds in tIRA vs Roth it allows the tax free area e.g. Roth to appreciate faster and when taking out it is tax free.

 

[RunningBum]

Thanks Runningbum. Your example I think helps me. Essentially by having bonds in tIRA vs Roth it allows the tax free area e.g. Roth to appreciate faster and when taking out it is tax free.

Exactly.

It occurs to me this could be a relatively safe way to time the market. If you think a correction is due, you could do a total swap and put bonds in your Roth and stocks in the tIRA, and swap them back at the bottom of the correction. You are still 50/50 so not taking a real market risk. If you're right, you prevented your tax free account from taking a hit that you get no tax break on. If you're wrong, you'll pay a bit more in taxes when you withdraw from the tIRA. Smaller risk (and smaller potential gain) than actually shifting in and out of stocks to time the market.

Just a thought. I'm not doing this because my stocks are mostly in my taxable account, and I don't want to take the LTCGs while I'm still trying to get an ACA subsidy, and even if not, I'd probably rather defer taking those gains.

 

[JoeWras]

In my opinion your FA is giving you bad advice. I look at all my accounts as one big portfolio with "target allocation across all accounts" (401k, IRA's, Roth's, taxable, etc.) to use your term. Using your AA in each account is just needless complexity IMO. Where each holding is depends on tax efficiency.

Right! And I use Vanguard's portfolio watch to check the AA. I manually enter my other assets from banks and Fido and my 401k to the "Outside investments" section in Vanguard. You mark the banks as "cash". If your other investments are in stock/mutuals, enter the Ticker. Vanguard will get the AA from this. If it is unlisted (like my 401k), you can manually enter the AA of that fund.

Alternatively, let Quicken do it for you. Again, you have to manually set up AAs for unlisted stuff.

 

[pb4uski]

+1 with others.... real bad advice by FA. Putting stock in tax-deferred effectively converts preferred income (qualified dividends and LTCG) that is taxed at lower rates into ordinary income taxed at higher rates when it is withdrawn. Very bad! If your equities allocation exceed yout taxable and tax-free account balances then you have no choice, but to do it when you don't need to is a bad idea.

Assuming that Roths are less than your total equity allocation, then Roths should be all equities so those higher returns in the long run are tax-free and the lower returning bonds are tax-deferred.

If I only had tax-deferred and tax-free and tax-free>equities then rebalancing would be easy. Tax-free roths would be 100% equities. Tax-deferred accounts would hold all bonds and equities to balance out AA.

Withdrawals would come from tax-deferred accounts. Rebalance within tax-deferred accounts only. Doesn't matter which tax-deferred accounts are used to rebalance.

For us, our taxable accounts are cash and equities. Roths are all equities. tIRAs are all bonds and equities needed to balance. In our case, we spend from cash, replenish by selling taxable equities, Roth convert from tax-deferred to Roths and then rebalance within the tax-deferred by selling stock/buying bonds or inverse, as is necessary. Easy peasy.

For me, it would actually be harder if all our accounts were our AA, plus it would be horribly tax inefficient. We paid less than $200 in federal tax in 2016 on over $100k in income.

 

[bloom2708]

Your advisor struggles with your low fee/expense ratio goals because that is where she makes her living from.

Once you peel the onion, the advice from any advisor who profits from what you do has to be taken with a skeptical eye. Once you do that, you have proven you no longer need the advice of that same advisor.

 

[LOL!]

We have more than 10 separate accounts.

About 9 of the accounts have only one single investment in them, so they don't need to be touched whenever doing any rebalancing.

The biggest (in value) tax-deferred account has one investment for every asset class that we want in our portfolio. We use this account for all rebalancing transactions. While this account itself does not have the asset allocation that we want for our entire portfolio (how could it anyways), since it has something of everything, rebalancing is trivial.

So some examples of single funds in the other accounts:

Roth IRA 1: 100% small-cap foreign
Roth IRA 2: 100% US small-cap value
Joint Taxable: 100% US large-cap index (very tax efficient)
traditional IRA 1: 100% Total US Bond Market Index
...

I don't know the dollar amounts in each of your accounts, but maybe some consolidation is in order so that you have at least one big tax-deferred account where you can do all rebalancing.

 

[flintnational]

Right! And I use Vanguard's portfolio watch to check the AA. I manually enter my other assets from banks and Fido and my 401k to the "Outside investments" section in Vanguard. You mark the banks as "cash". If your other investments are in stock/mutuals, enter the Ticker. Vanguard will get the AA from this. If it is unlisted (like my 401k), you can manually enter the AA of that fund.

Alternatively, let Quicken do it for you. Again, you have to manually set up AAs for unlisted stuff.

Thanks. I did not know about the Portfolio Watch feature. Just took a look. It seems fairly robust and useful to get an overview of AA.

 

[SoReady]

I have everthing like this...

Fidelity 401k choices:
B- 401(k) Lenovo strkx Pioneer Strategic Income K
B - 401(k) Lenovo VEIRX Vanguard Equity-Income Fund Admiral
B - 401(k) Lenovo JSERX JPM Small Cap Equity Fund Class R5
B - 401(k) Lenovo BTC Equity Index Non-Lendable Fund M
B- 401(k) Lenovo BTC U.S. Debt Index Non-Lendable Fund M
Vanguard
B- IRA VFIUX Vanguard Intermediate Term Treas - Adm
B - IRA VBTLX Vanguard Total Bond Adm
B - IRA PIMIX PIMCO Income Fund Institutional Class
B - IRA VMMXX Money Market
Vanguard
B - Roth VFIAX Vanguard 500 Index
B - Roth VGSLX Vanguard REIT Index Adm
B - Roth VSIAX Vanguard Small-Cap Value Index - Admiral
B - Roth VTIAX Vanguard Tot Intl Stock Idx - Adm
B - Roth VMMXX Money Market
Vanguard
C - Rollover IRA VFIAX Vanguard 500 Index
C - Rollover IRA VMGMX Vanguard Mid-Cap Growth Idx Adm
C - Rollover IRA VSIAX Vanguard Small Cap Value Idx - Admiral
C - Rollover IRA VSMAX Vanguard Small Cap Idx - Admiral
C - Rollover IRA VTIAX Vanguard Tot Intl Stock Idx - Adm
C - Rollover IRA VMMXX Vanguard Money Market Fund
Fidelity
C - rollover FUSVX Spartan S&P 500 Idx
C - rollover FSIVX Spartan Intl Index
C - rollover fdrxx Fidelity Cash Reserves

C - Trad IRA FSIVX Spartan Intl Index

C - Roth FUSVX Spartan S&P 500 Idx
C - Roth QPIGX Cash

Right now this allocation of 60/40 is in place across all of this. But next year I will need to withdraw some money. All these options seem to have grown over time, but now I'm looking for a little bit of simplicity and sticking to some of the tenants here e.g. roth - no bonds.

My after tax accounts are not displayed and I usually try to manage my retirement accounts separately.

Bob

 

[pb4uski]

Are your Roths more than 60% of the total? For an example I'll assume the Roths are 15% of the total and the total is 100.

	Stock	Bonds	Total
Roth	15%	0%	15%
t-IRAs	45%	40%	85%
Total	60%	40%	100%

 

[SoReady]

pretty close ... the roth's are 12%.

 

[Midpack]

Thanks Midpak for the illustration. It was that type of input that made me change my portfolio a bit to be sure bond funds were NOT in a Roth.

But I guess where I'm struggling is that I don't get taxed on anything I have in a Roth, so what does it matter if it is a bond fund or not? If I take money out of a Roth it is tax free.

And I believe that anything I take out of an IRA is taxed as ordinary income - correct? So whatever happens within these two areas doesn't really matter it is just how they are handled during withdrawal; one is tax free and the other is taxed as ordinary income.

As for a taxable account I understand there are tax implications in what is held there e.g. REITS, bonds, etc

Bob D

First, you’re right about taxes on withdrawals for Roth’s and TIRA’s, but that’s not the only time taxes come into play.

Second, your contributions are taxable on Roth’s and may/not be on TIRA’s.

And third, the investment placement/tax efficiency in the link I shared pertains to your investments as they accumulate and grow. Bond funds typically throw off more dividend and STCG income than stock funds. If you hold a bond fund in a taxable account, dividends and STCG may be taxed annually depending on your bracket. But if the bond fund is in a TIRA, none of the dividends or CG’s are taxed, so compounding growth is increased. Over years/decades that can be a considerable difference. For many investors, holding tax efficient investments in taxable and tax inefficient in deferred accounts during working years when income and tax brackets are high for many, reduces taxes now. If you expect to be in a lower bracket when you retire and withdraw from your TIRA, the strategy above can be beneficial.

Hope I got that right, haven’t had to think about it for many years.

From the linked page

Some fund types, like total market stock index funds, are extremely tax-efficient, because they produce low dividends (that are mostly qualified) and capital gains. By contrast, bond funds can be extremely tax-inefficient, because the interest they produce every year is taxed at your full marginal tax rate. Other tax-inefficient investments are REITs, small value funds, and actively managed funds that frequently churn their holdings. Put tax-inefficient funds into tax-advantaged accounts to the extent possible.

 

[Scuba]

+1 with others.... real bad advice by FA. Putting stock in tax-deferred effectively converts preferred income (qualified dividends and LTCG) that is taxed at lower rates into ordinary income taxed at higher rates when it is withdrawn. Very bad! If your equities allocation exceed yout taxable and tax-free account balances then you have no choice, but to do it when you don't need to is a bad idea.

Assuming that Roths are less than your total equity allocation, then Roths should be all equities so those higher returns in the long run are tax-free and the lower returning bonds are tax-deferred.

If I only had tax-deferred and tax-free and tax-free>equities then rebalancing would be easy. Tax-free roths would be 100% equities. Tax-deferred accounts would hold all bonds and equities to balance out AA.

Withdrawals would come from tax-deferred accounts. Rebalance within tax-deferred accounts only. Doesn't matter which tax-deferred accounts are used to rebalance.

For us, our taxable accounts are cash and equities. Roths are all equities. tIRAs are all bonds and equities needed to balance. In our case, we spend from cash, replenish by selling taxable equities, Roth convert from tax-deferred to Roths and then rebalance within the tax-deferred by selling stock/buying bonds or inverse, as is necessary. Easy peasy.

For me, it would actually be harder if all our accounts were our AA, plus it would be horribly tax inefficient. We paid less than $200 in federal tax in 2016 on over $100k in income.

I have a friend who is asking me for help to determine her AA. Her DH is 47, she's 55, and they won't be ready to retire for at least 8 years, maybe longer. He has a 401K and will have a pension. She has mostly tIRA's and is starting a new business so needs her taxable $$ for that.

I was thinking she should invest her tIRA in a fairly aggressive mix of equities/fixed income, maybe 75/25. But seeing your comments re tax efficiency, maybe this is misguided. What do you think?

 

[pb4uski]

I think that AA trumps tax efficiency... IOW, decide your AA first and then position your assets in the most tax effective manner possible.

So in your friend's case, let's say that the decision is 75/25. Great. Then the 75 in equities would go first in taxable accounts, second in Roths or HSAs and last in tax-deferred. But since she doesn't have taxable (its earmarked for her business) nor Roths, then the 75% has to go in tax-deferred.

I don't think it makes sense to adjust your AA from 75/25 to 60/40 or whatever because tax-deferred accounts effectively convert qualified dividends and LTCG to ordinary income... to do so would then truly be letting the tax tail wag the investment dog.

 

[Scuba]

I think that AA trumps tax efficiency... IOW, decide your AA first and then position your assets in the most tax effective manner possible.

So in your friend's case, let's say that the decision is 75/25. Great. Then the 75 in equities would go first in taxable accounts, second in Roths or HSAs and last in tax-deferred. But since she doesn't have taxable (its earmarked for her business) nor Roths, then the 75% has to go in tax-deferred.

I don't think it makes sense to adjust your AA from 75/25 to 60/40 or whatever because tax-deferred accounts effectively convert qualified dividends and LTCG to ordinary income... to do so would then truly be letting the tax tail wag the investment dog.

Thanks for your thoughts. Maybe someday she'll have taxable $$ to invest but not now. She is talking with her husband to agree on an AA.

 

[big-papa]

Many do replicate the same AA across all accounts. But as others have pointed out, the bond portion in your taxable accounts tends to be tax inefficient since it's constantly paying taxable dividends. So, what some folks do in their taxable accounts is to use muni-bond funds in place of either a total bond fund or treasury bond fund. Now, muni's rates tend to be lower taxable bonds (the price to pay for being tax free) and they haven't historically helped as much when things go sideways, like 2008. But it is an option.

 

[Lsbcal]

...
My adviser has suggested that I stick to my allocation % withing each of the IRA's, Roth's and 401k. Her argument is that it makes withdrawing and balancing going forward much easier. I tend to agree.
...

In the past I've struggled with this one. Sure stocks are likely to outpace bonds but how would I feel if stocks took a severe dive (think 1930's)? If I could be sure that stocks would outpace bonds over my retirement period then loading the Roth's with stock would be an easy decision.

I do a fair amount of market timing but have no confidence in predicting where the markets are going. For me it is strictly mechanical trend following + some fundamentals like yield curve inversions. I say this because even though I'm into some market timing, I have no way to predict when to load up our Roth's with stock and when to reduce.

So I have the same AA in the IRA and Roth's since 2010. Our taxable is in old high yield Ibonds (tax deferred). Only a modest amount of cash (2% for spending).

 

[jazz4cash]

My allocations vary widely across accounts accounts based on tax efficiency and the performance the available funds. For example, I keep an old 401k for the stable value fund and global large cap fund. The other 401k has a better emerging market fund. I use IRA's for individual stocks and CD's. Muni bonds go into taxable accounts.

 

[RunningBum]

My allocations vary widely across accounts accounts based on tax efficiency and the performance the available funds. For example, I keep an old 401k for the stable value fund and global large cap fund. The other 401k has a better emerging market fund. I use IRA's for individual stocks and CD's. Muni bonds go into taxable accounts.

Have you looked at the effect of getting the foreign tax credit for those international funds if you held them in your taxable accounts? Maybe those are better funds than you can get on your own, or you have other situations for not putting them there, but it's worth considering.

 

[indiajust]

Allocate assets by sector to provide smoother and higher average returns, allocate by account for tax efficiency. I allocated 2016 after selling the house. I write mortgages for yield (and use Lending Club) to substitute for bonds and use MLP's for daily cash. Otherwise I follow the revised Work Less, Live More guidelines (as reviewed in Motley Fool). I am averaging into the US large sector from foreign to avoid buying high.