What to Put Where: Some Ideas
Deciding which investments belong in which accounts can be confusing. But this decision can have as much effect on your returns as the specific stocks, bonds or mutual funds you choose.
Obviously, to be absolutely certain about what to put where, you’d need a crystal ball as well as a complex spreadsheet. But you can improve your situation, within reason, by reading these examples and using a little common sense.
Situation: My 401(k) has terrible stock fund choices, but I think the bond funds are fine.
Strategy: Use the 401(k) to buy your bond funds. Then consider using other accounts, like an IRA or even a taxable account, to invest in stocks and stock funds. But if maximizing those 401(k) contributions means most of your portfolio is in bonds, take another look at those “terrible” stock funds.
Situation: I’m thinking about buying shares of Microsoft, Intel and Cisco Systems--and holding them for a long time.
Strategy: Put them in a taxable account. These stocks will pay little or no dividends, which are taxed as normal income. And you won’t owe capital gains taxes until you decide to sell the shares.
Situation: I know variable annuities often charge steep expenses, but I want to own some because I’ve maxed out my 401(k) and I like their insurance features.
Strategy: Buy them through an outside account. Since variable annuities already defer taxes, putting them in a tax-deferred account would waste this tax feature.
Situation: I’m a very active trader, buying and selling stocks every day or two.
Strategy: If you’re jumping in and out of stocks, you’ll probably be piling up losses as well as gains along the way. By doing this in an outside account, you can apply those losses against capital gains or even ordinary income to reduce your overall tax bill.
Situation: I’m looking to hold high-yielding junk bonds and junk bond funds.
Strategy: If possible, put them in a tax-deferred account, especially a Roth IRA. Junk bonds throw off large amounts of income every year, and in a taxable account that means more income taxes every year.
Situation: My employer offers a very generous pension.
Strategy: Financial planners often tell clients to think about a generous pension as a conservative “bond” portion of the portfolio. So everything else--including a 401(k)--can be as heavily weighted in stocks or stock funds as you can stand.
Note: references to 401(k) would apply equally to 403(b) and 457.
