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Hypothetical question about Asset Location as you invest more money

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  • Hypothetical question about Asset Location as you invest more money

    Hello! I will be starting residency soon, brand new to investing/finance. I have been reading and learning a lot, but a question has popped up in my mind that I cannot seem to find a decent answer to online:

    Let's say hypothetically right now, I have enough investing money to max out my 403(b) and Roth IRA. But that's it. No more money left to invest. My asset allocation is (for simplicity sake) 75% Total Stock Market index fund & 25% Total Bond Market index fund. These 2 assets are distributed in that ratio between my 403(b) and Roth IRA.

    BUT THEN, lets 10 years from now, I have lots more money to invest, so I open a taxable account. I read to put tax-inefficient assets in tax-advantaged accounts, and tax-efficient assets in taxable accounts. So in this example, that means putting the Total Stock Market fund in the taxable account, and Total Bond fund in the Roth IRA/403(b). Is that right? Hypothetically, lets say I'm able to invest so much money that investing in 25% Bonds = $25,000 (basically itself is maxing out both the 403(b) and Roth IRA). So the remaining 75% for Stock goes into the taxable account. So that means I have to TRANSFER my Total Stock Market asset (originally in my Roth IRA/403b) to my taxable account? Is that right?

    Is that what people do if they get to that point?
    This is something I don't need to worry about now, but still it's something I'd like to know the answer to, and I think it's interesting. Thank you!

  • #2
    No, it's not a transfer of funds, it's a re-balance of your portfolio. You'd sell the stocks in the 403b/IRA (at no transaction costs) and buy bonds in those accounts. Then, you'd just buy more stocks in a taxable account. Tax-efficient fund placement is getting a little bit into the weeds, but the bogleaheads wiki has a lot of good, so you might want to take a look. https://www.bogleheads.org/wiki/Tax-...fund_placement

    There are good bond funds to use for taxable if you need to.

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    • #3
      Originally posted by jhwkr542 View Post
      No, it's not a transfer of funds, it's a re-balance of your portfolio. You'd sell the stocks in the 403b/IRA (at no transaction costs) and buy bonds in those accounts. Then, you'd just buy more stocks in a taxable account. Tax-efficient fund placement is getting a little bit into the weeds, but the bogleaheads wiki has a lot of good, so you might want to take a look. https://www.bogleheads.org/wiki/Tax-...fund_placement

      There are good bond funds to use for taxable if you need to.
      Okay, understood, makes sense! I now realize it was a silly question, so thank you for taking the time to read and answer!

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      • #4
        Also worth remembering that index funds and/or (especially ETFs) traditionally allow much more control for tax efficiency because you retain control over cap gains vs cap gains distributions on a traditional mutual fund. Just have a reliable way to track your allocation across accounts (if they aren't already at the same institution where you can do this in-house). Sounds like you have a good handle on it now!

        Best of luck!
        Founder, Coastal Wealth Planners: www.coastal-wp.com email: [email protected]

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        • #5
          Somewhat in the same vein, I'm going through my asset location strategy right now and it seems like some accounts, especially those with lower contribution limits (HSA, Roth IRA), will be completely filled up by one asset class (although the overall asset allocation for the entire portfolio will be fine). For instance, if I'm aiming to have 10% of my portfolio in small value, or 10% in REITs, and I'm contributing $6000 to my Roth IRA this year, I can see that entire Roth IRA just being filled with a small value or REIT fund. Depending on your allocation strategy, I can also see an entire 401k/403b being filled up with your bond contributions for the year.

          Is this typical? I know it should be fine overall since the portfolio as a whole is diversified, but it just feels weird to me to have my Roth IRA invested in one fund. Is there any advantage to diversifying within the accounts themselves?

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          • #6
            Originally posted by jellowars View Post
            Is there any advantage to diversifying within the accounts themselves?
            Not too much, as long as you're comparing retirement accounts to retirement accounts. One small advantage of keeping the retirement assets the same across both accounts is that because a 401k allows much bigger annual contributions than an IRA, running out of space in the smaller account won't limit what percentage of a given asset you can hold. (For example, if you put 100% stocks in your 401k and only bonds in your IRA, over time the original stock:bond allocation will drift in favor of stocks simply because the amount of money will grow faster in the 401k because of the larger annual contributions. But if you keep both accounts 80% stocks and 20% bonds, a simple annual rebalancing of both accounts will mean that ratio will stay at 80:20.) But since you can buy and sell within a retirement account without penalty, you can fix this easily enough once it becomes a problem. You don't have to worry much about it now. Think about it after you become an attending, and you have a better idea of what funds you'll have available in your new employer's 401k.

            Now when you get MUCH closer to retirement (5 years or less out), you may want to tilt the account you are going to draw on first in favor of bonds/cash, and up the stocks in the one you'll be holding back for later in retirement. But right now, that's not necessary for you.

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            • #7
              Originally posted by jellowars View Post
              Somewhat in the same vein, I'm going through my asset location strategy right now and it seems like some accounts, especially those with lower contribution limits (HSA, Roth IRA), will be completely filled up by one asset class (although the overall asset allocation for the entire portfolio will be fine). For instance, if I'm aiming to have 10% of my portfolio in small value, or 10% in REITs, and I'm contributing $6000 to my Roth IRA this year, I can see that entire Roth IRA just being filled with a small value or REIT fund. Depending on your allocation strategy, I can also see an entire 401k/403b being filled up with your bond contributions for the year.

              Is this typical? I know it should be fine overall since the portfolio as a whole is diversified, but it just feels weird to me to have my Roth IRA invested in one fund. Is there any advantage to diversifying within the accounts themselves?
              Yes.
              no.
              read the bogleheads wiki on asset placement.

              Comment

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