10 year TIPS Ladder to SS or ????

[Chuckanut]

The 10 year TIPS rate has bumped up above 2%.

 

[Lorenzo]

Build a ladder in tax deferred. When a TIPS matures, sell that amount of stock in taxable and buy the same amount back in tax deferred.

Could someone explain this strategy to me? What is the goal here? Okay, so sell stock in taxable for spending. But isn't buying ("back") stock in tax-deferred (with the proceeds of a maturing TIPS) considered sub-optimal? I thought the standard advice for allocation across accounts for tax purposes is to hold bonds in tax-deferred and hold stocks in taxable?

 

[dickoncapecod]

Could someone explain this strategy to me? What is the goal here? Okay, so sell stock in taxable for spending. But isn't buying ("back") stock in tax-deferred (with the proceeds of a maturing TIPS) considered sub-optimal? I thought the standard advice for allocation across accounts for tax purposes is to hold bonds in tax-deferred and hold stocks in taxable?

I'll comment and leave. The very first question one should ask is: In this interest rate market, why would anyone buy TIPs?
Regards, Dick

 

[Chuckanut]

I'll comment and leave. The very first question one should ask is: In this interest rate market, why would anyone buy TIPs?
Regards, Dick

You expect there is a significant probablity that inflation will be above the breakeven rate between the regular 10 yr treasuries and 10 year TIPS.

 

[Out-to-Lunch]

I'll comment and leave. The very first question one should ask is: In this interest rate market, why would anyone buy TIPs?
Regards, Dick

You expect there is a significant probablity that inflation will be above the breakeven rate between the regular 10 yr treasuries and 10 year TIPS.

Or you merely want to hedge against this possibility.

 

[Lorenzo]

Whether there may be better ways to mitigate inflation risk is something I would also like to discuss, and I know Dick is fond of CEFs, but I would be grateful if someone could first help me with my question above.

 

[dickoncapecod]

You expect there is a significant probablity that inflation will be above the breakeven rate between the regular 10 yr treasuries and 10 year TIPS.

That doesn't matter TIPs are Treasurys that have greater INTEREST RATE sensitivity than conventional Treasurys of similar maturity. If you believe inflation and long rates are going up, WAIT. TIPs are cheapest AFTER an inflation spike than before. Just check a price chart. TIPs also have terrible tax characteristics discussed above. But top of the list: investment grade corporates yield 7+:, IG preferreds more, excellent closed end funds 9-15%. There are lots of floating rate assets that offer far higher yields than inflation + (say) 2-2.5% with largely delayed returns and early taxation. The cost of credit perfection is always high, and with TIPs it is extreme.
Regards,bDick

 

[pb4uski]

... Build a ladder in tax deferred. When a TIPS matures, sell that amount of stock in taxable and buy the same amount back in tax deferred. ...

Could someone explain this strategy to me? What is the goal here? Okay, so sell stock in taxable for spending. But isn't buying ("back") stock in tax-deferred (with the proceeds of a maturing TIPS) considered sub-optimal? I thought the standard advice for allocation across accounts for tax purposes is to hold bonds in tax-deferred and hold stocks in taxable?

I'll try. Let's say that you have a TIPS ladder that is structured to mirror your spending needs in your traditional IRA and all stocks in your taxable account. You have that asset placement for tax efficiency since qualified dividends and LTCG on stocks are taxed at lower rates than ordinary income like interest income and that tIRA distributions are ordinary income.

A year goes by and one of the TIPS in the ladder matures at $85k and you need that maturity money for living for the next year. Rather than do a $85k tIRA withdrawal that is a taxable event and results in $85k of ordinary income, you sell $85k of stocks and use those proceeds for living money for the next year. Since the stocks have some basis the LTCG will be less than $85k and the tax rate will be a preferential rate (0%, 15% or 20% vs 10%, 12%, 22%, 24% or more for ordinary income).

Other than tax placement, before tax considerations it is the same as if you had your TIPS ladder in your taxable account and your stocks in your traditional IRA, except it is much more tax efficient.

 

[junkanoo]

I'll try. Let's say that you have a TIPS ladder that is structured to mirror your spending needs in your traditional IRA and all stocks in your taxable account. You have that asset placement for tax efficiency since qualified dividends and LTCG on stocks are taxed at lower rates than ordinary income like interest income and that tIRA distributions are ordinary income.

A year goes by and one of the TIPS in the ladder matures at $85k and you need that maturity money for living for the next year. Rather than do a $85k tIRA withdrawal that is a taxable event and results in $85k of ordinary income, you sell $85k of stocks and use those proceeds for living money for the next year. Since the stocks have some basis the LTCG will be less than $85k and the tax rate will be a preferential rate (0%, 15% or 20% vs 10%, 12%, 22%, 24% or more for ordinary income).

Other than tax placement, before tax considerations it is the same as if you had your TIPS ladder in your taxable account and your stocks in your traditional IRA, except it is much more tax efficient.

Agreed. However, for some, the better course might be a mix.

For example, the same couple (neither 65, taking the standard deduction) needing 85K to live on could take 55K in stock sales (say 30K in capital gains) and 30K in T-IRA withdrawals and have a Federal tax bill of $0. This might be quite helpful in maintaining a taxable account for longer while also working down that T-IRA before RMDs. Not for everyone, but perhaps quite useful and still tax efficient.

 

[pb4uski]

It's just meant to be an example responsive to tulak's question.

 

[Lorenzo]

Thank you, @pb4uski and @junkanoo. So the missing piece of the puzzle for me in this strategy was the presumption that one's LTCG rate for the sale from taxable is lower than their ordinary income rate. Probably true for many here, but not necessarily me. My situation is probably more like @junkanoo's example.

 

[tulak]

Could someone explain this strategy to me? What is the goal here? Okay, so sell stock in taxable for spending. But isn't buying ("back") stock in tax-deferred (with the proceeds of a maturing TIPS) considered sub-optimal? I thought the standard advice for allocation across accounts for tax purposes is to hold bonds in tax-deferred and hold stocks in taxable?

The goal is for income while maintaining an equity allocation. All of this depends on how you invest. For me, I want 8-10 years of guaranteed inflation adjusted return of principal. I don’t know of any investment besides TIPS that has this guarantee. Everything else gets invested in equities. This allows me to maintain a higher allocation to equities, which is where I want to take my risk.

As for your question, yes, you want to hold bonds/TIPS in tax deferred accounts. If equities are doing well, then I’ll reinvest the TIPS and take income from equities. If equities are not doing well, then when the TIPS matures in the tax-deferred account, I use those funds to buy equities, why at the same time I sell equities in after-tax or tax-free (Roth) for income. This allows me to maintain my equity allocation in a down market.

Of course, this eliminates a step in my ladder - which may or may not be risky - but I’m betting that at some point equities will recover which allow me to backfill my TIPS ladder. At least, that’s my plan at this point.

 

[tulak]

I'll comment and leave. The very first question one should ask is: In this interest rate market, why would anyone buy TIPs?
Regards, Dick

We all invest for different reasons. I’m more than happy to take my risk with equities, but I want a guaranteed return of inflation adjusted principal.

Interest rates don’t come into the picture for me.

 

[tulak]

pb4uski described the tax situation better than I could (unsurprisingly and appreciated) . And junkanoo rightly points out that it can be a mix. This will vary for everyone and it’s a good idea to map out your tax situation and have a plan.

In my case, I’ll likely have a 72t and may need to tap Roth contribution for income (pre-59.5). There’s a few levers I can use to try and minimize taxable income, but I also have in the back of my mind RMDs, so taking a tax hit now might be better long-term. It becomes a different discussion than investing in TIPS, which is what I focused on in this thread.

I’m try to be tax efficient, but I also want a lazy portfolio. CEFs, etc, are beyond what I want to do - but all respect to those that want to go that route.

 

[pb4uski]

Thank you, @pb4uski and @junkanoo. So the missing piece of the puzzle for me in this strategy was the presumption that one's LTCG rate for the sale from taxable is lower than their ordinary income rate. Probably true for many here, but not necessarily me. My situation is probably more like @junkanoo's example.

I'm struggling to think of a level on income where ordinary tax rates would be lower than capital gains tax rates. Off the cuff anyway.

 

[junkanoo]

In my case, I’ll likely have a 72t and may need to tap Roth contribution for income (pre-59.5). There’s a few levers I can use to try and minimize taxable income, but I also have in the back of my mind RMDs, so taking a tax hit now might be better long-term. It becomes a different discussion than investing in TIPS, which is what I focused on in this thread.

I’m try to be tax efficient, but I also want a lazy portfolio. CEFs, etc, are beyond what I want to do - but all respect to those that want to go that route.

Certainly, many are using a TIPS ladder to handle sequence-of-risk issues in retirement. Makes sense to me for those first 4-5 years after the paycheck stops.

However, let me throw this out for discussion. *IF* you think there is a chance that you would need to dip into your Roth account, what about CEFs in your ROTH account?

Here is my limited thinking (good, bad or indifferent). For discussion purposes, let's say you purchase $100K of CEFs earning around 12% in your ROTH account and let's guess that your ROTH balance would allow this without a significant or painful rebalance. Thus, if you needed the money 7 years from now, you *might* have $84k in a money market in that account strictly from dividends. So, those dividends could be used to supplement your taxable/tax-deferred accounts. Best case, you have that tax-free income without lowering your ROTH balance. It also may potentially serve as a good offset to your taxable stock-centric account.

Worst case, the dividend yield goes to 6% thus lowering that $84K significantly while also wreaking havoc on the price of the CEFs. However, if the worst case happens and happens immediately ... you would still have $42K in the money market that could be used tax-free to help with income needs without resorting to any selling. If, say you were 50, that would also give you perhaps 35 years to recover on the price of CEFs (45 including heirs) while still getting some powerful non-taxable dividend distributions. Given 35 years ... I would bet on CEFs having their day at some point.

 

[dickoncapecod]

Certainly, many are using a TIPS ladder to handle sequence-of-risk issues in retirement. Makes sense to me for those first 4-5 years after the paycheck stops.

However, let me throw this out for discussion. *IF* you think there is a chance that you would need to dip into your Roth account, what about CEFs in your ROTH account?

Here is my limited thinking (good, bad or indifferent). For discussion purposes, let's say you purchase $100K of CEFs earning around 12% in your ROTH account and let's guess that your ROTH balance would allow this without a significant or painful rebalance. Thus, if you needed the money 7 years from now, you *might* have $84k in a money market in that account strictly from dividends. So, those dividends could be used to supplement your taxable/tax-deferred accounts. Best case, you have that tax-free income without lowering your ROTH balance. It also may potentially serve as a good offset to your taxable stock-centric account.

Worst case, the dividend yield goes to 6% thus lowering that $84K significantly while also wreaking havoc on the price of the CEFs. However, if the worst case happens and happens immediately ... you would still have $42K in the money market that could be used tax-free to help with income needs without resorting to any selling. If, say you were 50, that would also give you perhaps 35 years to recover on the price of CEFs (45 including heirs) while still getting some powerful non-taxable dividend distributions. Given 35 years ... I would bet on CEFs having their day at some point.

Bondish CEFs have the benefit of long-term tax deferral --- not as beneficial as fully tax free, but they have functioned as serious wealth-builders for me through 17+ years of retirement.
Aside: the only scenario in which a CEF yield falling to 6% is DESTRUCTIVE is huge distribution cuts. A more obvious and likely stress scenario is that interest rates skyrocket and dramatically reduce the market price of the CEFs ---- but if you wish to examine that one, it's important to consider the impact on OTHER portfolio assets/not in isolation. Equity holdings might be a far larger problem.
Regards, Dick

 

[tulak]

However, let me throw this out for discussion. *IF* you think there is a chance that you would need to dip into your Roth account, what about CEFs in your ROTH account?

I take my risk with equities and I want FI for stability. I’m happy with 10%+ with equities and a smaller return with TIPS.

I’m not active enough to pay attention to CEFs. I want a lazy portfolio with good returns and a plan for when SHTF. TIPS serves that purpose well.