Help with Tax Efficient re-Allocation

At Bogleheads we read: Help with Tax Efficient re-Allocation

by lexstyles » Thu Dec 19, 2013 7:15 pm

Hello,

I have been a long time reader of the forum and this is my first post. Thank you for your help.

My wife and I are both 36 and have taxable and tax-deferred accounts with Vanguard.
The taxable one holds approximately the following allocation:

\
VFIAX (S&P Index): 35%
VEXAX (Mid-Cap Index): 8%
VFWAX (Int'l Index): 28%
VGSLX (REIT): 10%
VBTLX (All Bond Index): 20%

The Roth + Rollover IRA:
VFORX (2040 target retire fund): 100%

The reason I started using the target retirement fund is that when the accounts were small I could not meet the minimums of all the individual funds necessary for my target allocation.

Now the accounts have grown and I have been reading about the benefits of tax-efficient allocations, I am considering selling off the target retirement fund, buying more of the individual funds, and shifting the holding so that the all the REIT and Bond index are held completely in the tax-advantaged accounts, followed by the MidCap, Int'l, and S&P indices in the taxable account.

The questions I have are:

1) Does it make sense to reallocate for tax efficiency even though selling the REIT and Bond funds in the taxable account will incur capital gains and thus some tax implications?

2) If so, does it make sense to wait until next year when i believe our taxable income will be lower (wife going on maternity leave)?

3) regarding the tax-efficiency of these funds, do you agree with my assessment of low to high efficiency (REIT - bond fund - midcap fund - int'l stock - S&P)?

4) are there recommendations regarding asset classes that are best held in either Roth vs Traditional IRAs?

5) should we diversify the bond allocation to include a tax-exempt bond fund, or is the total bond market fund sufficient?

Thanks again for your help. This forum has been an incredible help as we have tried to begin our path toward financial independence.

Re: Help with Tax Efficient re-Allocation

by Duckie » Thu Dec 19, 2013 10:00 pm

lexstyles, welcome to the forum.

lexstyles wrote:1) Does it make sense to reallocate for tax efficiency even though selling the REIT and Bond funds in the taxable account will incur capital gains and thus some tax implications?

Yes it makes sense because taxable bonds and definitely REITs do not belong in taxable.

2) If so, does it make sense to wait until next year when i believe our taxable income will be lower (wife going on maternity leave)?

Yes, especially since next year is two weeks away.

3) regarding the tax-efficiency of these funds, do you agree with my assessment of low to high efficiency (REIT - bond fund - midcap fund - int'l stock - S&P)?

This is the Boglehead view of tax efficiency.

4) are there recommendations regarding asset classes that are best held in either Roth vs Traditional IRAs?

If all things were equal it is suggested that funds with higher expected growth (stock funds) are better in the Roth and funds with lower expected growth (bond funds) are better in traditional because the Roth IRA growth won't be taxed. Things aren't always equal.

5) should we diversify the bond allocation to include a tax-exempt bond fund, or is the total bond market fund sufficient?

TBM is sufficient as long as you have enough room in tax-sheltered accounts to hold it.

Re: Help with Tax Efficient re-Allocation

by Taylor Larimore » Thu Dec 19, 2013 10:47 pm

Lexstyles:

Welcome to the Bogleheads Forum!

You are fortunate to realize now that your fund placement is not the most tax-efficient.

I agree with Duckie's sound advice. Any capital-gain on your REIT and Bond Index fund should be much less than the unnecessary taxes you will incur if you do not move these two funds into tax-advantaged accounts.

Happy Holiday!
Taylor