Tax-Efficiency Question
by jmg229 » Sun Feb 09, 2014 9:17 pm
I know that these questions get asked frequently, so I tried the wiki and am just looking for some confirmation. I am married and in the 15% federal tax bracket (~5% state). We max out our Roth IRAs and I nearly max my 401k (wife doesn't have one available). We have recently come into a windfall and of it, I have ~70-75k left that I anticipate going to retirement savings. This money will slowly be moved into 401k and IRA as space becomes available, but in the meantime, this means that I am stuck investing in a taxable account, but in a very low tax bracket and I want to be sure that I understand what that does to fund placement.
Does this argue for high growth stock funds (and international stocks) favored in taxable since I can tax gain harvest for free for at least the next few years (income should jump in 3-4 years)? My understanding is that bond fund dividends will still be taxed at ordinary income rates (15% federal) if I don't take the hit to use muni funds (which I can't imagine making sense), while stock funds, on the other hand, will have 0% LTCG and 0% qualified dividends. The one thing I see needing to be careful of is not selling the stocks to top off the IRA yearly before the 1 year holding period. Anything I'm missing? Anything I should definitely not put in taxable (like REITS)? Thanks.
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Re: Tax-Efficiency Question
by Laura » Sun Feb 09, 2014 9:34 pm
Remember that making a change in taxable can be costly later on so unless you are absolutely sure that you will remain in the low income tax brackets I would aim for only tax efficient equities in your taxable account. If you still need some bonds, you can use them in taxable then "transfer" them into retirement accounts over time. Make sure to readjust your 401k and IRAs. You don't need to replicate your portfolio structure in taxable.
taxable
US stocks
Intl Stocks
401k
bonds
IRAs
Bonds
Laura
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Re: Tax-Efficiency Question
by livesoft » Sun Feb 09, 2014 9:37 pm
I suppose high growth stock funds are tax efficient since Long-Term cap gains get a favorable tax rate. But high loss stocks fund are even more tax-efficient since one gets a bigger tax break from capital losses. 
It's all about short-term opportunistic rebalancing due to a short-term change in one's asset allocation, uh, I mean opportunistic rebalancing, uh I mean rebalancing, uh I mean market timing.
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Re: Tax-Efficiency Questionby sunnyday » Sun Feb 09, 2014 10:10 pm
What is your current AA? It could also help knowing what funds you currently own and what the value is but not necessary.
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Re: Tax-Efficiency Question
by tj » Sun Feb 09, 2014 10:13 pm
I like the idea of bonds in taxable.
These bloggers agree.
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Re: Tax-Efficiency Question
by jmg229 » Sun Feb 09, 2014 10:54 pm
Thank you for the responses so far. I'm looking for information because I think that the strategy may be different for those in a low tax bracket, or at least the logic behind the strategy may be different, so anything tailored to this as opposed to high salary individuals will be much appreciated.
tj wrote:I like the idea of bonds in taxable.
These bloggers agree.
I have seen this logic, but does it still hold if I am in a low tax bracket (LTCG at 0%)?
Also, how does it change if I think that I will be up to the 25% bracket in 4-5 years?
sunnyday wrote:What is your current AA? It could also help knowing what funds you currently own and what the value is but not necessary.
AA is 85/15 stock/bond
Of the stock, 60/40 US/Intl with an overweight to SV and emerging markets and a small amount of REITS
Total retirement funds thus far are ~$50,000, increasing by 2x5500 IRA and 1 401k max a year. So this 70-75k is a substantial part of the retirement portfolio for a period of time.
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Re: Tax-Efficiency Question
by grabiner » Mon Feb 10, 2014 12:38 am
In the OP's situation, stocks in taxable have an extra advantage, because a US stock fund with 100% qualified dividends is free of federal tax and allows him to harvest gains to avoid taxes later. A foreign stock fund might actually have a negative federal tax cost, as the foreign tax credit of 7% is greater than the 15% tax on the part of the dividends that are non-qualified. (If you have very high foreign income, you won't be able to take this credit, but this is unlikely to apply to anyone in the 15% bracket.)
And the OP plans to take much of this money in capital gains in the next few years, as he will use it to max out 401(k)s. These capital gains will be taxed at 0% for the next few years.
David Grabiner
David Grabiner
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