I am trying to set up Regular (taxable) account which would generate similar qualified dividends (QD) and taxable interest as my real Taxable account. My Taxable account has 5% Money Market (MM) funds and 95% stocks. I started with default Real ROR -1% for MM and 2% for stocks.
1. In order for that portfolio to generate similar QD I had to set "Growth Taxes Annually as QD" at 30% which seems very high. Only 70% of growth is taxed as long term capital gains. Is this what others encounter?
2. In order to generate similar interest I had to bump Real ROR to 1%. Is there another way to do that? Real ROR of 1% is probably true for current year: 4% interest, 3% inflation = 1% real ROR. I am aware that this might not last.
I would like to have some confidence that I can set interest, QD and calculate taxes correctly for the current year, before I look at the modeled results.
Any comments?
Thanks you!
I would probably call the MM as Cash, so that all of its return gets taxed as interest. If you really believe it will lose 1%/year to inflation, that's a heavy price to pay for flexibility.
For stocks, the reason that so much of your return ends up being taxed is you have set a very low return. Inflation this year has been roughly 3% and you set your stock returns at 2% above that. A total stock index fund might have dividends of 1.6%, with 1.2% being qualified. In your low return model, that means that 1.2/(3+2)=0.24 (24%) of your stock returns end up as qualified dividends and (1.6-1.2)/(3+2)=0.08 of your stock returns are non-qualified dividends.
Historical stock returns have been 6.7% above inflation, had you used that, then your qualified dividends would have been 1.2/(3+6.7)=12.4%, but it would also show that you will become really wealthy.
I like to examine the Historical Analysis and set my guesses for portfolio returns so I get somewhere between the 20th and 30th percentile (so 70-80% of historical returns would have been better). I do this in part because the highest 25-30% of historical returns all happened when stocks were just coming off terrible downturns, so that doesn't sound like us, so I'm not shooting much lower than average if I were to exclude those great starting years. I am currently using 5.2% real returns, 2.5% inflation. With those return assumptions, my actual stock holdings in taxable works out to 16.2% taxed as qualified dividends and 3.8% taxed as ordinary income.
Many thanks for your comments. I am newbie to PRC and I thought these real ROR were pre-populated based on historical data. I would agree with MM real returns being close to 0%. I should bump the stock returns, but I also want to model the “lost decade” - a period where stocks returned 0% after pretty high valuations - we might be in this situation today.
Thanks again!
@marek_c I use a much higher expected return for stocks than you (at 4% real cagr). But--fwiw--my growth taxation for stocks is set at 24% qual dividends and about 74% long term capital gain. So not really far off what you are using in your modeling.
I based these figures on the average income return I found at the Vanguard site for their Total Stock Market Index fund (namely that about 1.63% of total returns are dividends), with about 92% of that being qualified. That divided over my assumption of a 6.3% nominal average return going forward gave me 24% qualified, 2% non qualified and 74% left for capital gain when sold.
You have to remember that Pralana uses long term averages for its modeling. So in a year like this one, where stocks returned many multiples of the expected average, the taxation shown by Pralana for this year is going to be off from reality.
@jkandell Hi Jonathan-
Are you referring to Vanguard Total Stock dividend yield? I see 1.12% (or 1.08% for 30 day SEC yield). Maybe the yield was 1.63% at the beginning of the year or some other point in time?
Thanks!
Are you referring to Vanguard Total Stock dividend yield? I see 1.12% (or 1.08% for 30 day SEC yield). Maybe the yield was 1.63% at the beginning of the year or some other point in time?
This is really getting into the weeds, but we love it. 🙂 Yes I was using Vanguard Total Stock as a proxy for stocks because it's what I happen to use in my own taxable accounts. Good catch: I am not referring to the "dividend yield" (1.26% for 2024), which is the sum of the distributions divided by the NAV at the end of the year. (I used to use dividend yield/TTM because it's so readily available.) No, I am instead using the dividend payout figures from https://institutional.vanguard.com/investments/product-details/fund/0585: Under "Performance" you can see the historical "breakdown" of the "total return" into "income return" and "capital return"; it was "1.63%" in 2024. In finance jargon this latter figure is known as the "Beginning-of-period dividend yield" or "Income return (on beginning assets)".
This higher figure seems to me a better match for what Pralana is asking in its growth taxation inputs since it represents the dividends that occurred in 2024 divided by the original NAV at the start of the year. Since Pralana utilizes the 1/1/xx start date for its balances (not the current value), I thought this better represented what Pralana requested. The 1.63% is higher than the 1.26% because it uses the start of the year NAV rather than the end of the year NAV, after the fund value has increased.
FWIW, to get my figures for Pralana's growth taxation entry page, I averaged the last four years of income return from that table to figure out the numerator for my calculations (1.39% is the 2020-2024 avg), and then used my expected average return for those funds as the denominator, converted to nominal dollars. (Note this figure is larger than the geometric/CAGR real return one enters into Pralana.) I actually averaged the income return of all my taxable stock funds, but that's too anal to get into. I know that Rick uses a different method to calculate his numerator, going off of his last year's tax returns.
Frankly, with a 3-4% real expected return, the figures come out fairly similar whether you use TTM/dividend yield or Income return. All of them are going to have considerable error with the real world, and you just need it to be in the ballpark, 'good enough'. Things will be easier when Pralana switches to the "% of assets" for dividends, since I can just enter the table directly.
