I suggest an additional option to Asset-Location that also calculates tax efficiency and helps the users to locate their assets in their accounts. Here is an example of 11 assets:
User input in blue:
| User Input | Asset Location | ||||||||
| Asset name | Asset Allocation | Return | Yield % (dividends or Interest) | Foreign Tax % | Qualified % | Tax % | Taxable | IRA | Roth |
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| US LCB | 6.7% | 5.0% | 1.27% | 0.00% | 100% |
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| US LCV | 6.7% | 5.3% | 1.58% | 0.00% | 100% |
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| US SCB | 6.7% | 5.3% | 1.29% | 0.00% | 100% |
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| US SCV | 6.7% | 5.8% | 1.61% | 0.00% | 100% |
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| US REITS | 6.7% | 4.8% | 3.05% | 0.00% | 2% |
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| Int'l LCB | 6.7% | 5.4% | 3.56% | 7.38% | 73% |
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| Int'l LCV | 6.7% | 5.7% | 4.15% | 6.60% | 100% |
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| Int'l SCB | 6.7% | 5.7% | 3.02% | 5.07% | 71% |
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| Int'l SCV | 6.7% | 6.2% | 4.60% | 6.38% | 68% |
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| EM | 6.7% | 7.0% | 3.47% | 8.63% | 46% |
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| US Bonds | 33.3% | 0.0% | 3.00% | 0.00% | 0% |
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| Total | 100% |
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| 27% | 50% | 23% |
| User Input | |||||||||
The tool adds tax and optimum locations:
| User Input | Asset Location | ||||||||
| Asset name | Asset Allocation | Return | Yield % (dividends or Interest) | Foreign Tax % | Qualified % | Tax % | Taxable | IRA | Roth |
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| US LCB | 6.7% | 5.0% | 1.27% | 0.00% | 100% | 0.19% | 6.7% |
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| US LCV | 6.7% | 5.3% | 1.58% | 0.00% | 100% | 0.24% | 6.7% |
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| US SCB | 6.7% | 5.3% | 1.29% | 0.00% | 100% | 0.19% | 6.7% |
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| US SCV | 6.7% | 5.8% | 1.61% | 0.00% | 100% | 0.24% | 6.7% |
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| US REITS | 6.7% | 4.8% | 3.05% | 0.00% | 2% | 0.67% |
| 6.7% |
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| Int'l LCB | 6.7% | 5.4% | 3.56% | 7.38% | 73% | 0.34% |
| 3.3% | 3.3% |
| Int'l LCV | 6.7% | 5.7% | 4.15% | 6.60% | 100% | 0.35% |
| 3.3% | 3.3% |
| Int'l SCB | 6.7% | 5.7% | 3.02% | 5.07% | 71% | 0.36% |
| 3.3% | 3.3% |
| Int'l SCV | 6.7% | 6.2% | 4.60% | 6.38% | 68% | 0.50% |
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| 6.7% |
| EM | 6.7% | 7.0% | 3.47% | 8.63% | 46% | 0.35% |
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| 6.7% |
| US Bonds | 33.3% | 0.0% | 3.00% | 0.00% | 0% | 0.66% |
| 33.3% |
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| Total | 100% |
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| 27% | 50% | 23% |
| User Input | |||||||||
- The asset names and the numbers in the table are just to illustrate the idea and are not a suggestion to use in real life.
- The user may have the option to set some of the locations and let the tool set the remaining locations.
- Tax formula: Dividend yield * [(Qualified percentage*QDI tax rate)+((1-Qualified percentage)*normal tax rate)-FTC]. In the above example the QDI tax is 15% and normal tax is 22%.
- The tool should try various combinations to maximize saving. There are a few common recommendations for Asset Location. The tool may use some of them to simplify the calculation and reduce the number of test permutations:
- Place tax inefficiently assets (such as Bonds and REITs) in IRA (and in Roth if IRA is full).
- Use lower return assets in IRA and high risk/return assets in Roth.
- The tool should be especially useful for comparing international and US assets’ location. Foreign tax credits are usable only in taxable accounts and are lost in IRA and Roth. But international dividends are usually higher, and taxes are higher. So, the best location compared with the US equities are not obvious.
Some will say that this addition is too complex, and simplicity is a key for most users. Well, it depends on the user’s situation, and it may save significant taxes for some people.
There is a recent thread on Bogleheads.org discussing this, where a user put together a spreadsheet with yields that can help you decide what goes where.
https://www.bogleheads.org/forum/viewtopic.php?t=422068
Yes, this is a good thread. There are several other tax-efficiency bogleheads threads. However, tax efficiency is not the only parameter to optimize locations if the goal is to maximize the overall savings. I should not use “Tax efficient Asset Location” as the title because Pralana tool can optimize location not just based on tax efficiency. Some time you may pay more taxes to maximize your saving for the long run. A good overview of Asset Location is in the following article: Tax-efficient fund placement - Bogleheads
Asset Location is less important than Asset Allocation but more difficult to fix later in life. Changing asset locations in IRA and Roth at any time is easy and does not trigger tax events. Changing asset location in a taxable account may require paying capital gain taxes and they can be large if the unrealized gain grew substantially during the years. Therefore, it is important to optimize Asset Location early. This is from my own experience, I made this mistake and currently I am stuck with investments that are difficult to change.
Changing asset location in a taxable account may require paying capital gain taxes and they can be large if the unrealized gain grew substantially during the years. Therefore, it is important to optimize Asset Location early. This is from my own experience, I made this mistake and currently I am stuck with investments that are difficult to change.
Us too, every past mistake is a frozen in place, a monument to past performance chasing and bad ideas. With just enough unrealized capital gains to make it unpalatable to sell, but not nearly as many gains as it would have if we had just stuck to a Total Market or S&P500 fund.
