Roth Conversions resulting in aggressive AA

[rkser]

As I am converting the all Bond VBTLX IRA into a all VTI Roth, the asset allocation is tilting more than planned towards equities.

My intended AA was 50-55% Stocks & rest in Fixed Income, & now with the high market returns combined with Roth Conversions the AA is around 63% Stocks.

I am 65 & have recently retired, with all the talk about the Sequence of Return Risks & the advice about being more in Bonds(Tent) I am getting uncomfortable.

The only other way is to sell the Stocks & buy Munis (in 24%) in the Taxable accounts. The resulting Capital Gains may reduce the Roth Conversions at a given Tax Rate.

Any thoughts/suggestions ?

Thanks in advance

 

[RunningBum]

It sounds like you took the taxes out of the conversion rather than paying it out of your taxable account? If so you really didn't change your situation but you wound up with a lower total in your Roth than you had in your tIRA, but it's really the same. Some people thought I was ridiculous when I said I considered after tax values of holdings when figuring out my AA, and here's a good reason why. Can you raise enough cash to pay the conversion taxes from taxable, such that you get 100% of the tIRA bonds into the Roth?

You could also adjust this by figuring out how much stock value you'd have after selling, taking 15% + state tax out of the unrealized gains. If you sell $200K worth of stock with $100K cap gains you aren't going to net $200K after taxes. It'll be more like $185K, or less with state taxes, so use that kind of calculation for AA purposes.

Or maybe it's all due to market gains. In that case you could wait for a downturn to bring you back in balance, or you could sell some and pay the cap gains. Seems better to take the gains and only lose part of it to taxes, right?

 

[bingybear]

What problem are you trying to solve?

Incorrect allocation? move more into bonds. you can hold bonds in your roth.

Otherwise have more equities than you wanted..... choose

 

[Dtail]

What problem are you trying to solve?

Incorrect allocation? move more into bonds. you can hold bonds in your roth.

Otherwise have more equities than you wanted..... choose

Agree, one can just hold some bonds in the Roth, although that is not typical.

 

[RunningBum]

Ah, never mind my previous post, I missed that the Roth holding was VTI, total stock ETF. Agree with the others, just sell some of that for bonds.

 

[SecondCor521]

A third option is to realize you can probably take SS any day now, and that will act like a huge slug of bonds, making your portfolio more conservative than it looks on the surface.

Unless you've already thought of that, or don't qualify for much SS.

...

Or realize that SORR really only applies if your withdrawal rate is above approximately 4%. Is it?

 

[rkser]

Thank you

 

[pb4uski]

....Any thoughts/suggestions ? ...

Sell VTI and buy VBTLX in Roth to get to the AA you want.

When I do conversions I buy in the Roth the same ticker that I sold inth tIRA so my AA doesn't change.

 

[Winemaker]

Doesn't your brokerage allow for in kind conversions? Fidelity does.

 

[walkinwood]

If the distributions subject to income tax rates in your taxable account are in a low bracket, it may make sense to buy bonds in your taxable account rather than lose the appreciation potential of equities in your ROTH account.

Your T-IRA could be all bonds & ROTH all Stock. Use the stock & bonds in your taxable account to reach your AA. You could put treasuries in the taxable account to avoid state & local taxes.

 

[rkser]

Sell VTI and buy VBTLX in Roth to get to the AA you want.

When I do conversions I buy in the Roth the same ticker that I sold inth tIRA so my AA doesn't change.

Thanks pb4uski

 

[rkser]

Doesn't your brokerage allow for in kind conversions? Fidelity does.

I am with Vanguard & it does do in kind transfers to Roth.

In a way it was a silly question, though like always I appreciate your input. Sorry guys.

Ingrained in my mind is to keep VTI in the Roths, it being the most aggressive Mutual Fund/ETF.

When I saw the 63% Stocks jump up on my portfolio, I wanted to get in line as it crosses my 5% ribbon.

 

[rkser]

If the distributions subject to income tax rates in your taxable account are in a low bracket, it may make sense to buy bonds in your taxable account rather than lose the appreciation potential of equities in your ROTH account.

Your T-IRA could be all bonds & ROTH all Stock. Use the stock & bonds in your taxable account to reach your AA. You could put treasuries in the taxable account to avoid state & local taxes.

That is what I do with the Muni Fund Intermediate Term Tax Exempt Fund VWIUX in Taxable Accounts, with the Roth being all VTI.
We are MFJ in 24% this year with the projected Roth Conversions.

I would exchange some of the VTSAX into the VWIUX to balance back to 55% Stocks & yes pay the Cap Gains.

Either way, I think the sum would be the same.

 

[Out-to-Lunch]

Note that even if you keep your AA nominally the same, it becomes more [-]risky[/-] edit: volatile and stock-like as you keep more of your equities in Roth/taxable and your bonds in tax-deferred: https://www.bogleheads.org/wiki/Tax-adjusted_asset_allocation

The effect is not huge, though.

 

[oldtimer]

Have you already purchased the maximum I-bonds for 2021?

 

[Exchme]

Your asset allocation has to be one that makes you comfortable enough to hold through thick and thin.

So do you use SpecID on your taxable investments? If not, you can select it and to the extent they can, Vanguard will show you which investments have what taxable basis. You may have some that were invested fairly recently, say from some dividend reinvestment, that can be sold with minimal tax consequence.

I have a small inherited IRA and found that it is worth liquidating it during the time before RMDs when we are short of cash. Also, if you have an HSA, now is the time to scrounge up receipts and get some cash out of that.

Beyond that, you would have to model to know whether it is better to pay the capital gains taxes on average, do less Roth conversions, hold bonds in Roth, pay for the conversion taxes out of the IRA, or whatever other strategy makes sense for you. You have already accomplished the main goal of tax efficient asset allocation, which is to slow the growth of your traditional IRA, so my guess is there won't be a huge penalty for putting some bonds in Roth. Also, strategies don't have to last a lifetime - perhaps you could put some bonds in Roth now and then once RMDs kick in, maybe you can start loading taxable with bonds and eventually get back to the ideal asset location.

 

[rkser]

Note that even if you keep your AA nominally the same, it becomes more risky as you keep more of your equities in Roth/taxable and your bonds in tax-deferred: https://www.bogleheads.org/wiki/Tax-adjusted_asset_allocation

The effect is not huge, though.

Thankyou for sharing the article, I am better informed now.

As the after tax value of my all bond IRAs is less than what I see from my statements, my Asset Allocation is in effect more aggressive.
This is because the ordinary income tax rates are generally higher than the Tax rate for long term capital gains & qualified dividends.
This may suggest to me to have more Municipal Bonds in the Taxable account. Our taxable accounts have all our stocks & the muni fund.

I never calculated my Asset Allocation by the after tax values before this.
It would probably be a exercise to undertake at every step of rebalancing.

We plan to do the Roth conversions for the next 6 years till I reach the RMDs, I will be adding mucho Bonds in my taxable by then.

 

[rkser]

Have you already purchased the maximum I-bonds for 2021?

I stopped bothering with I-bonds & en cashed what I had. The sole reason was the website of Treasury Direct which I found very difficult to maneuver & it would kick me out multiple times.
I realize I may be losing the I Bond's inflation adjusted returns.
Thanks

 

[rkser]

Your asset allocation has to be one that makes you comfortable enough to hold through thick and thin.

So do you use SpecID on your taxable investments? If not, you can select it and to the extent they can, Vanguard will show you which investments have what taxable basis. You may have some that were invested fairly recently, say from some dividend reinvestment, that can be sold with minimal tax consequence.

I have a small inherited IRA and found that it is worth liquidating it during the time before RMDs when we are short of cash. Also, if you have an HSA, now is the time to scrounge up receipts and get some cash out of that.

Beyond that, you would have to model to know whether it is better to pay the capital gains taxes on average, do less Roth conversions, hold bonds in Roth, pay for the conversion taxes out of the IRA, or whatever other strategy makes sense for you. You have already accomplished the main goal of tax efficient asset allocation, which is to slow the growth of your traditional IRA, so my guess is there won't be a huge penalty for putting some bonds in Roth. Also, strategies don't have to last a lifetime - perhaps you could put some bonds in Roth now and then once RMDs kick in, maybe you can start loading taxable with bonds and eventually get back to the ideal asset location.

Thanks for a very helpful post,

After realizing that we (65 & 60) have won the game, I am comfortable with 50 to 55% Stocks.
I am guilty of looking the other way when the market is doing well & ignoring the self set 5% ribbon for rebalancing when the stock % is creeping up.
Mind plays the tricks like .... maybe 60/40 may not be that aggressive.

I will rebalance & go to my comfort level ( or the erratic market of late may do this by itself for me.), Yes I do use the Spec ID when selling the shares.

When I add the needed Bonds, I wonder if the Bonds will be better located in the Roth vs Taxable accounts ?? I will appreciate any output.

 

[FREE866]

My initial thought is that 63% stock is certainly not "aggressive".



If you run the numbers through FIRECALC you can see that the difference in 20 year time frame for 63% stock and 50% stock is minimal.



Psychologically it might not feel "right " to you, but actual history shows a not substantial difference between those 2 AA's.

 

[rkser]

Another question/clarification -

The thought behind the Sequence of Return Risk & creating the Bond Tent etc is - If the market tanks around the start of retirement (where I am at), one does not have to withdraw from the stocks during a down market. Am I right ?

But, if one has 10+ years of living expenses in Bonds to draw from, is SORR still a concern ?

What do you think ?

 

[RunningBum]

Another question/clarification -

The thought behind the Sequence of Return Risk & creating the Bond Tent etc is - If the market tanks around the start of retirement (where I am at), one does not have to withdraw from the stocks during a down market. Am I right ?

But, if one has 10+ years of living expenses in Bonds to draw from, is SORR still a concern ?

What do you think ?

I think that makes sense. It's more of a bucket approach. Keep X years in non-volatile liquid assets, Y years in a fairly conservative mix, and the rest more aggressive. This makes more sense to me than saying I'll have A% in stocks and B% in bonds/cash. Not something I'd push people to do but if it makes sense to you, I'm with you.

 

[SecondCor521]

Another question/clarification -

The thought behind the Sequence of Return Risk & creating the Bond Tent etc is - If the market tanks around the start of retirement (where I am at), one does not have to withdraw from the stocks during a down market. Am I right ?

But, if one has 10+ years of living expenses in Bonds to draw from, is SORR still a concern ?

What do you think ?

Let me say again I'm not a fan of bond tents for SORR mitigation, although I know they're all the rage among the cool kids.

I think the theory behind the bond tent is not the source of a person's withdrawal, but the fact that a bond heavy portfolio won't decline as much if the market tanks right after retiring.

Whether SORR is a concern or not seems to me not to rest on how many years a person has in bonds, but whether their WR is safe or not.

If my WR at my AA is historically safe for my life expectancy and the future isn't any worse than the past, then I don't have to worry about SORR.

If a person has 10 years in bonds, that could mean they have: (A) a 1% WR and a 90/10 portfolio or (B) a 6% WR and a 40/60 portfolio. Generally, I would be worried about situation (B) but not situation (A). Although it depends on life expectancy. Portfolio (A) might be appropriate for someone in their 40s; portfolio (B) might be appropriate for someone in their 90s.