Tilt due to taxes?

[BearBones]

What changes to make, if any, if large percentage of assets taxable and in highest tax bracket? Any recommendations without subjecting assets to undue risk?

[goodasgold]

What changes to make, if any, if large percentage of assets taxable and in highest tax bracket? Any recommendations without subjecting assets to undue risk?

I assume you are taking full advantage of Roth IRAs, physical gold and I-bonds.

[Mark Leavy]

Reduce transactions so that you don't rebalance more than necessary.

Do that by:
Use wide rebalance bands. (15/35)
Tax loss harvest.
Add new money to the lowest asset instead of to cash.
Withdraw money from cash for as long as possible.

Also, keep interest and dividends to a minimum.
Buy the 30 year Treasury bonds with the lowest interest rates, so that your yield is delivered as LT capital gains instead of interest.

Don't use a dividend growth fund for your equities.

Really, with a little attention, it is hard to beat the PP for low taxes.

[BearBones]

I assume you are taking full advantage of Roth IRAs, physical gold and I-bonds.

Yes, tax deferred maxed. And yes.

[BearBones]

Also, keep interest and dividends to a minimum.
Buy the 30 year Treasury bonds with the lowest interest rates, so that your yield is delivered as LT capital gains instead of interest...

...it is hard to beat the PP for low taxes.

Thanks! Just with 50% of assets spinning off interest, I am ever aware that Uncle Sam is taking about half back. On top of already historically miserable rates. I try to keep a disproportionate percentage of cash and bonds in tax deferred accounts but am still forced to hold a lot in taxable accounts. Always makes me sick (and re-question the PP) when I buy them. Gold and equities more palatable.

[KevinW]

Mark Leavy is right about the stock PP being pretty tax-efficient, which is good, but doesn't leave much room for improvement.

My advice (similar to Mark's) is:
- Use the default 15/35 bands and never pre-emptively rebalance.
- Use a dollar-stable fund for cash transactions to minimize taxable events.
- Use a single, simple total-market index fund or ETF for the stock component.
- Choose bread-and-butter funds from well-established sponsors (e.g. Vanguard, Fidelity, Schwab, iShares) to minimize the likelihood that you'll need to dump a fund.
- Don't fiddle with it!

[sophie]

If you spread your PP across taxable and tax-advantaged accounts, you can arrange to have as much of the taxable assets as possible in physical gold, I Bonds, and emergency cash. 

Keep some gold in a tax-advantaged account for rebalance purposes...you definitely don't want to have to sell gold and pay the collectibles tax.

Consider a small cap fund for taxable stocks, to minimize dividends.

Second previous suggestions to put new contributions toward the lagging asset to delay or avoid rebalance events, and buy new 30 year bonds with the lowest interest rate.

Take full advantage of HSAs (if you can) and back-door Roth IRA contributions.  If some of your income is self-employment, definitely open a solo 401K.  You get to contribute 20% of your net schedule C income tax-deferred off the top.  I also use it to redirect deferred income from my employer's plan, since I get complete control with the 401K and I don't have to deal with estimated taxes (employer does that service for me instead).

[Fred]

... and buy new 30 year bonds with the lowest interest rate.

Why would you want to do that?

[Libertarian666]

... and buy new 30 year bonds with the lowest interest rate.

Why would you want to do that?

Because they are the most volatile.

[Pet Hog]

... and buy new 30 year bonds with the lowest interest rate.

Why would you want to do that?

Because they are the most volatile.

Also, as Mark stated above, "your yield is delivered as LT capital gains instead of interest."

Consider two 30-year treasury bonds currently available at Fidelity:
(A) Maturity 2/15/2045; coupon 2.50%; ask price: $903.91/bond; yield to maturity: 2.996%
(B) Maturity 11/15/2045; coupon 3.00%; ask price: $1003.28/bond; yield to maturity: 2.983%

If you had $9000 to invest, you could buy 10 units of bond A or 9 units of bond B.  That would get you, each year, a coupon payment of $250 from A ($25 x 10) and $270 from B ($30 x 9), federally taxable at your income tax bracket.  Let's say you hold for 10 years, as is the doctrine of the HBPP, and assume that interest rates remain at 3% for these (now) 20-year TBs.  Bond A is now worth, say, $920/bond (on its way to par value), while bond B is still worth $1000/bond.  You sell, giving a capital gain of $200 in case A; no capital gain in case B.  Overall you make $2500 in coupons and $200 in capital gains in case A, and $2700 in coupons in case B.  With capital gains taxed at a lower rate than coupon payments, you will pay less tax by buying bond A, which has the lower coupon.

That's how I understand it to work.  Please correct me if I'm wrong.  I haven't used a bond price calculator to get accurate numbers for the 20-year treasuries.

[BearBones]

Really helpful, you all. Thanks.
And great explanation, Pet Hog!

[Pet Hog]

Why would you want to do that?

Because they are the most volatile.

Also, as Mark stated above, "your yield is delivered as LT capital gains instead of interest."

Consider two 30-year treasury bonds currently available at Fidelity:
(A) Maturity 2/15/2045; coupon 2.50%; ask price: $903.91/bond; yield to maturity: 2.996%
(B) Maturity 11/15/2045; coupon 3.00%; ask price: $1003.28/bond; yield to maturity: 2.983%

If you had $9000 to invest, you could buy 10 units of bond A or 9 units of bond B.  That would get you, each year, a coupon payment of $250 from A ($25 x 10) and $270 from B ($30 x 9), federally taxable at your income tax bracket.  Let's say you hold for 10 years, as is the doctrine of the HBPP, and assume that interest rates remain at 3% for these (now) 20-year TBs.  Bond A is now worth, say, $920/bond (on its way to par value), while bond B is still worth $1000/bond.  You sell, giving a capital gain of $200 in case A; no capital gain in case B.  Overall you make $2500 in coupons and $200 in capital gains in case A, and $2700 in coupons in case B.  With capital gains taxed at a lower rate than coupon payments, you will pay less tax by buying bond A, which has the lower coupon.

That's how I understand it to work.  Please correct me if I'm wrong.  I haven't used a bond price calculator to get accurate numbers for the 20-year treasuries.

It's been bugging me all day that I didn't use a bond price calculator to work out exact numbers.  I'm going to have another go using the same cases A and B as earlier, but with $100,000 to invest.

Bond A: $100,000/$903.91 = buy 110 bonds (worth $99,430, plus $570 change)
Bond B: $100,000/$1003.28 = buy 99 bonds (worth $99,325, plus $675 change)

We are going to hold these bonds until they have 20 years left to mature.  That means we will receive 19 semi-annual coupon payments from bond A (we've already missed one from August 2015) and 20 from bond B. That's $26,125 from bond A (19 x $12.50/bond semi-annually x 110 bonds) and $29,700 from bond B (20 x $15/bond x 99 bonds).

On 2/15/2025 we will sell bond A (at 20 years from maturity).  Assuming the yield on a 20-year treasury is the same as it is today (2.67%), bond A will be worth $973.79/bond (determined using a bond calculator), so we will receive $107,117.  That's a capital gain of $7687 ($107,117 - $99,430).

Likewise, on 11/15/2025 we sell bond B.  Assuming a 20-year treasury still yields 2.67%, bond B would be worth $1050.88/bond (from bond calculator), so we receive $104,037 for a capital gain of $4712 ($104,037 - $99,325).

In total, the sum of capital gains and coupon payments is $33,812 from bond A and $34,412 from bond B.  (It makes sense that we make more from bond B because we hold it for nine extra months.  In those nine months we could have reinvested the $134,000 from bond A in another 30-year treasury earning, say, 3% and received an August coupon payment of $2000.  And so on.)

The take-home message is that the lower-coupon bond provides less in interest (in this example, about $3600 less) and more in capital gains (here, about $3000 more).  That $3600 less interest would be spread out over 10 years, so it would subtract about $360 per year from your taxable earnings.  If you are taxed in the 35% bracket, that would be about $125 less tax each year on the coupons, or about $1250 over 10 years.  The $3000 more in capital gains would mean about $450 more tax (at 15%) as a one-off payment after 10 years.  So, overall you should save about $800 in tax over 10 years in this particular example.  It's not a lot, but something to think about.

Again, please correct me if you spot an error.

[I Shrugged]

I sent you a PM to ask some questions privately.  But for public consumption, do you mind saying if your taxes are high solely due to your investments?  Because that is definitely fixable, with one big modification to the PP.

But if you have ordinary earnings putting you in the top bracket, that's different.

[stuper1]

I sent you a PM to ask some questions privately.  But for public consumption, do you mind saying if your taxes are high solely due to your investments?  Because that is definitely fixable, with one big modification to the PP.

But if you have ordinary earnings putting you in the top bracket, that's different.

I'm curious, what is the big modification that would fix that situation?

[I Shrugged]

Fill your tax-sheltered space with Treasuries. Outside of tax-sheltered space, substitute muni bonds for Treasuries.  Just understand that you are giving up the protection and "favored in a panic" status of Treasuries.  I found that out the hard way in the 08 meltdown. 

Use large cap stock index funds, especially from Vanguard.  They almost never throw off CG distributions.  They are able to run their CGs out through their institutional classes of the same fund.  For big balances, use ETFs instead of open end funds.  Should you want to tax loss harvest in a downturn, I can tell you from experience that Vanguard will not be happy with you.  They do not like getting a mutual fund sell order in the 7 figure range, especially when everyone is selling.  I got myself locked out of some funds during the crash.  So use ETFs as much as possible.

Don't elect to reinvest dividends or CGs, except within tax-sheltered space.  Put payouts to your cash account so you can control your purchases.  This might allow you to put off rebalancing by using say stock dividends to buy bonds, etc.

Read the Taxable Ted section in Wm Bernstein's book The Four Pillars of Investing.

If you do the above, you probably won't invoke the AMT.  If you are being hit by AMT, study up on it and see what you need to change. 

During the past several years, the ZIRP era, I've paid very very little in federal taxes.  I live in a fairly low income tax state, and my state taxes are more than my federal.  The tax code definitely favors the large investor over the working man.  If interest rates go up a few percent, my taxes will go up too.

[Libertarian666]

Fill your tax-sheltered space with Treasuries. Outside of tax-sheltered space, substitute muni bonds for Treasuries.  Just understand that you are giving up the protection and "favored in a panic" status of Treasuries.  I found that out the hard way in the 08 meltdown. 

HB specifically warned people not to substitute anything for Treasurys, whether for tax reasons or for higher yields.

Of course what you do is up to you, but I thought I should mention that for other people.