Business & Finance Finance

Which Account: Taxable or Tax-Deferred?

Many of us spend a great deal of time figuring out the proper asset allocation between stocks, bonds, real estate, and other asset classes. Financial planners also spend a lot of time gathering information on a client's risk tolerance level and goals in order to help with the asset allocation process. This is certainly one of the most important aspects of financial planning and shouldn't be taken lightly. However, many people fail to appreciate the importance of what some call "asset location", which is the process of deciding which investments will go in a taxable account vs. a tax-deferred account.

Studies conducted in 2005 by financial planners Gobind Daryanani and Chris Cordaro found that implementing asset location in a portfolio, versus equally dividing assets across taxable and IRA accounts, added 20 basis points of performance annually. If you take this 20 basis points and compound it over 30 to 40 years, the benefits can be quite large.

At first it might seem obvious that income-producing securities and funds, such as bonds, should go in tax-deferred accounts while lower tax capital gains-producing investments should go in taxable accounts. A study done by T. Rowe Price found that, not surprisingly, the higher your tax bracket in retirement- when distributions are taxed at ordinary income tax rates- the more beneficial it is to put bond funds in a tax-deferred account and equity funds in a taxable account.

However, if an investor is in a lower tax bracket and has a long holding period (10 years or more), he can do better by keeping stock funds in the tax-deferred account and bond funds in the taxable account. This is due to the combination of having a lower tax rate on the income from bonds as well as the fact that the equities in the tax-deferred account can grow for many years tax-deferred at presumably a higher growth rate than bonds. The compounding of these higher growth rates over time can be substantial.

It's also interesting to think about different types of stocks and how their characteristics can affect your taxes and portfolio value in the future. Large-capitalization growth equity funds generally have lower turnover and smaller dividends than small-cap value stocks, which means they can be more tax-efficient in a taxable account.  

Retirement Planning Software | Financial Planning Software
SHARE
RELATED POSTS on "Business & Finance"
Secrets Of The Stochastic Oscillator
Secrets Of The Stochastic Oscillator
What Are Residential Bridge Loans?
What Are Residential Bridge Loans?
Bankruptcy And Divorce
Bankruptcy And Divorce
Get Better At Forex With These Tips
Get Better At Forex With These Tips
Kids using Parents Credit Cards Online
Kids using Parents Credit Cards Online
Reevaluate A Cash Advance To Pay Taxes
Reevaluate A Cash Advance To Pay Taxes
Don't Let Your Employer Keep You From Getting Workers Compensation
Don't Let Your Employer Keep You From Getting Workers Compensation
Jain Heights Grand West Tasteful Dwellings
Jain Heights Grand West Tasteful Dwellings
What Makes Penny Stock Prophet Amazing
What Makes Penny Stock Prophet Amazing
Pros and Cons of Net Banking
Pros and Cons of Net Banking
Why You Need to Create a Personal Budget?
Why You Need to Create a Personal Budget?
Fantastic Coupon Guidance That May Function For You Personally!
Fantastic Coupon Guidance That May Function For You Personally!
More Money - 10 Money Saving Tips
More Money - 10 Money Saving Tips
Importance of QuickBooks for Its Better Use
Importance of QuickBooks for Its Better Use
The Best Way to Ascertain If You Need to Have Bookkeeping Help or QuickBooks Help For Your Small Bus
The Best Way to Ascertain If You Need to Have Bookkeeping Help or QuickBooks Help For Your Small Bus
People Involved in Consolidating Student Loans
People Involved in Consolidating Student Loans
Is Bad Credit Auto Financing Available In Platte Woods, MO These Days?
Is Bad Credit Auto Financing Available In Platte Woods, MO These Days?
The Lowdown On Student Loans
The Lowdown On Student Loans
Can You Afford The Homes For Sale Minnesota Offers?
Can You Afford The Homes For Sale Minnesota Offers?
Construction Factoring Helps Contractors Stay Profitable
Construction Factoring Helps Contractors Stay Profitable

Leave Your Reply

*