Dear Wealth Wise: As a retired 66-year-old, I find plenty of guidance on portfolio allocation but very little on asset location — how investments should be divided among taxable accounts, traditional IRAs/401(k)s, and Roth IRAs/401(k)s.
Many experts suggest a portfolio split such as 50% stocks (mostly U.S., with some international exposure) and 50% more conservative investments, such as bonds and money market funds. But there’s far less discussion about where those assets should be held to maximize after-tax returns. I feel undereducated on the topic of asset location and would like more guidance on how retirees can optimize investments across accounts with different tax characteristics.
— Where Should I Stash My Assets?
Dear “Where Should I Stash My Assets?”: Asset allocation is an important part of retirement planning. And you, as a 66-year-old retiree, seem well informed about how much of your portfolio should go into aggressive holdings like stocks versus stable or income-producing assets like bonds.
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But their question is one that’s not raised often enough — where do the assets actually go?
Mark Sanaiha, CFP, founder and wealth advisor at Macallen Capital, says he likes to tell clients to follow a simple rule.
“Put your least tax-efficient assets where the IRS can’t touch them, and your most tax-efficient assets where they’re built for low taxes.”
Let’s dig deeper into that strategy to answer the burning question of how to find the right home for your various retirement assets.
Assets that belong in a traditional IRA or 401(k)
Cody Garrett, CFP, owner and financial planner at Measure Twice Financial, says, “Traditional pre-tax retirement accounts should generally hold tax-inefficient assets, such as taxable bonds, money market funds, REITs, and BDCs.”
As Garrett explains, these assets tend to distribute ordinary income rather than qualified dividends and can have higher yields than equities.
Garrett also says that for many retirees, it makes sense to allocate most or all of their bond holdings to traditional retirement accounts. Doing so could shelter your bond interest from immediate taxes, which is important, since bond interest is taxed at ordinary income rates.
Assets that belong in a Roth retirement plan
Roth accounts are often touted as a shining example of tax efficiency. Though contributions are made with after-tax dollars, gains are completely tax-free, as are withdrawals. There are also no RMDs to worry about.
Because assets held in a Roth IRA or 401(k) aren’t subject to tax gains, Garrett says, “Roth accounts are often best used for assets with the highest expected long-term growth.”
If you have U.S. or international stock market funds and other growth-oriented equity investments, you may want to load them into your Roth.
Sanaiha says, “Your Roth IRA is your growth engine, … so don’t waste that on cash or money markets.”
Sanaiha also cautions that while it often makes sense to hold international funds in a Roth IRA, it depends on the fund.
“In some cases, the tax drag is comparable to a value fund, so we’ll then consider traditional or Roth IRAs for placement,” he says.
Assets that belong in a taxable account
With a taxable account (such as a standard, non-retirement brokerage account), there’s no IRS benefit when you’re contributing funds and building wealth. But there’s flexibility. You don’t have to worry about annual contribution limits, early withdrawal penalties, or RMDs. Still, it’s important to choose the right assets for these accounts.
“Taxable accounts favor tax-efficient investments that produce little taxable income each year and receive long-term capital gains tax treatment on qualified dividends,” Garrett explains. “Examples include low-turnover equity funds, such as U.S. stock market index funds. These investments often generate modest dividend income.”
Garrett says taxable accounts can also be appropriate for holding crypto ETFs and other volatile assets.
“Investors can harvest capital losses if values decline, while long-term capital gains from securities held longer than a year receive favorable tax treatment,” he says. “Many crypto investors instinctively place speculative assets in Roth accounts hoping for tax-free growth, but taxable accounts provide useful tax benefits if the investment performs poorly.”
That said, many retirement investors may prefer to skip highly speculative investments like crypto, even with the tax-loss harvesting benefit.
Another attractive option to balance tax efficiency and liquidity needs is municipal bonds or muni market funds, which are exempt from federal income tax. Sometimes they may also be exempt from state or local taxes if they are for in-state bonds.
|
Account type |
Best assets |
Tax and legacy considerations |
|---|---|---|
|
Traditional IRA or Traditional 401(k) |
Taxable bonds, money market funds, REITs, and Business Development Companies (BDCs) |
Shelters heavy ordinary income from annual taxes. Taxed as ordinary income to heirs, who must empty the account within 10 years. |
|
Roth IRA or Roth 401(k) |
U.S. stock market funds and other growth-oriented equity investments. In some cases, international funds. |
Maximizes tax-free growth. Passes to heirs 100% federally tax-free if the account was opened 5 years prior. |
|
Taxable account, such as a brokerage account |
Low-turnover equity funds, such as U.S. stock market index funds, crypto ETFs (for tax-loss harvesting) and municipal bonds or muni funds. In some cases, international funds. |
Enjoys lower capital gains tax rates and preserves the Foreign Tax Credit for international funds. Heirs get a step-up in basis, erasing accumulated capital gains tax. |
|
Bank account |
Cash, checking, savings, and immediate emergency funds. |
Sacrifices tax efficiency and is vulnerable to inflation, but guarantees 1–2 years of immediate liquidity. |
Assets that belong in an accessible bank account
Retirees are often advised to maintain a hefty cash cushion to cover emergency expenses or buy themselves the flexibility to leave their investment portfolios untapped during periods of market decline. This helps avoid locking in permanent portfolio losses.
Garrett says that from a tax-efficiency perspective, cash and money market funds are best suited for traditional retirement accounts since interest is taxed at ordinary income rates.
“That said, many retirees still prefer to maintain one to two years of liquidity in checking, savings, and other taxable accounts, sacrificing tax optimization for peace of mind,” Garrett explains.
Your strategy may shift over time
It’s good to go into retirement with a general framework of where to house your various assets. But Sanaiha says that just as your asset allocation might change over time, so too might some of your asset location decisions.
For example, since our reader is 66 years old, their RMDs will start at age 75 under the SECURE Act 2.0. They will have nine years to plan Roth conversions to reduce the risk that RMDs will force them into higher tax brackets.
Moreover, a retiree’s asset locations will need to shift as asset allocations change. As you spend down your accounts, using the bucket or other retirement withdrawal strategies, your overall asset allocation will shift. If you spend all your taxable cash first, you may need to rebalance other accounts, which could trigger taxes.
“Asset location decisions should always be made in the context of your overall tax situation, RMDs, Social Security timing, and legacy goals,” he says. “What’s optimal at 66 may shift significantly by the time RMDs begin.”
An evolving strategy, Sanaiha insists, could help you generate retirement income more efficiently while keeping the most money away from the IRS.
