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IRA and brokerage accounts

LearnMS

Level 2 Member
#1
I opened 2 accounts with Schwab recently. One is traditional IRA and the other is Individual brokerage account. I transferred $5500 in each.

For IRA, I invested all $5500 in SWPPX back in Feb. Since then, it's not doing well. For the individual, I haven't made up my mind yet. I am thinking if LFRAX is a good option, close to 2% YTD return and 0.79% ER. Or is there a better option?

I haven't opened a Roth IRA yet. I still got ~30 years to retire. So thinking to contribute like this every year in the long term.

Any thoughts?
 

volker

Level 2 Member
#2
If you invest in a taxable account and don't have a Roth: I would consider opening a Roth IRA right away.

Traditional IRA & regular investment accounts gets taxes. Roth IRA don't get taxes and if needed you can take as much money out as you paid in. You have to pay a penalty and taxes when you withdraw earnings from your Roth.

If you balance (e.g. 20% bonds, 80% stock) your portfolio I would consider having your bonds and LFRAX in the taxable account and stocks (like SWPPX) in the Roth accounts. That's under the assumption that SWPPX will always gain more as the LFRAX.

Basically: if you expect a lot of gain: put it in the tax free account, if you expect little gain: put it in the taxable account.
 

mec

Silver Member
#3
Ideally the Roth IRA would serve as a retirement account, but it can serve as an emergency savings as volker mentioned. Roth's have other advantages too. For instance you can continue to contribute to them after age 70 if that makes sense at that time, and you aren't required to start withdrawing funds at a specific age. In addition to that... the long term returns on a Roth can be better than the returns on a traditional IRA, particularly when you start contributing many years in advance of retirement and your funds have a long time to accrue interest on the contributions. you can pretty easily get into a situation where the tax savings on the earnings are greater than the initial taxes on the contributions.

Most of what I've mentioned is what was true last year and I'm not sure if there have been any changes since.
 

Matt

Administrator
Staff member
#4
Basically: if you expect a lot of gain: put it in the tax free account, if you expect little gain: put it in the taxable account.
Not sure about that. I do think if you expect a lot of income being dumped out (Cap Gains/Divs) then an IRA wrapper is useful, but a lot of gain vs not is maybe a harder call (big topic, and can be correct or incorrect depending on how far down the rabbit hole you go)
 

Matt

Administrator
Staff member
#5
I opened 2 accounts with Schwab recently. One is traditional IRA and the other is Individual brokerage account. I transferred $5500 in each.

For IRA, I invested all $5500 in SWPPX back in Feb. Since then, it's not doing well. For the individual, I haven't made up my mind yet. I am thinking if LFRAX is a good option, close to 2% YTD return and 0.79% ER. Or is there a better option?

I haven't opened a Roth IRA yet. I still got ~30 years to retire. So thinking to contribute like this every year in the long term.

Any thoughts?
Agree with @volker that you should invest in an IRA over a Taxable in many cases. Not necessarily a Roth though, as your goal should be to tweak your AGI in order to gain credits and operate in the optimum effective rate.

As for your investment choices - I'd suggest neither option. They're also quite clearly opposite - cheap passive vs expensive active, doesn't imply a strategy. If you'd like to ask a few more questions about what works/doesn't or help clear this up, I'd be happy to try to address it in a post.

Lastly, note that he LFRAX goal is to spin off income... this isn't great because it causes tax today in a taxable account, and likely is reaching for yield (junk) in order to pay out.
 

LearnMS

Level 2 Member
#6
Agree with @volker that you should invest in an IRA over a Taxable in many cases. Not necessarily a Roth though, as your goal should be to tweak your AGI in order to gain credits and operate in the optimum effective rate.

As for your investment choices - I'd suggest neither option. They're also quite clearly opposite - cheap passive vs expensive active, doesn't imply a strategy. If you'd like to ask a few more questions about what works/doesn't or help clear this up, I'd be happy to try to address it in a post.

Lastly, note that he LFRAX goal is to spin off income... this isn't great because it causes tax today in a taxable account, and likely is reaching for yield (junk) in order to pay out.
Thanks for the insights. Though late in the game, it'll be my baby steps to investments. So far, I max out 401k, HSA accounts. Then leftover funds in HSA, I invest in Vanguard funds. Apart from emergency funds, I still feel there's 3k left in one bank and 5k in another, sitting there with no interest makes me feel that I can do better if I put them to good investment.

My main goal (as with anyone else) would be to make sure I invest where it makes logical sense at this point. I am not 22 anymore to fumble and make rookie mistakes. Hence wondering if I should explore IRA and anything else where I can automate money. ER has been a factor for me to decide between cheap passive vs expensive active funds. So looking for some directions here (e.g. if not LFRAX, what else? why?). If it helps, I can draft set of specific questions.

Thanks.
 

Matt

Administrator
Staff member
#7
Thanks for the insights. Though late in the game, it'll be my baby steps to investments. So far, I max out 401k, HSA accounts. Then leftover funds in HSA, I invest in Vanguard funds. Apart from emergency funds, I still feel there's 3k left in one bank and 5k in another, sitting there with no interest makes me feel that I can do better if I put them to good investment.

My main goal (as with anyone else) would be to make sure I invest where it makes logical sense at this point. I am not 22 anymore to fumble and make rookie mistakes. Hence wondering if I should explore IRA and anything else where I can automate money. ER has been a factor for me to decide between cheap passive vs expensive active funds. So looking for some directions here (e.g. if not LFRAX, what else? why?). If it helps, I can draft set of specific questions.

Thanks.
Of course, LFRAX is not cheap passive, an important thing though, is that passive should be cheap these days (but really isn't significant if you are paying 3bps or 7bps from a cost perspective, which covers a bunch of options). Therefore, cheap passive is accessible. Expensive Active is tricky, because you can argue that there's Active that is worth paying for (at least they have a good strategy and seem to earn the fee) vs Active that is charging a lot for basically a Passive fund.

That said, generally, Passive is a great starting point. Probably best to stick there until such time as you want to go deep down the rabbit hole of investing and fund selection.

Asset Location and Asset Allocation
Location refers to type of account (IRA vs Taxable, etc) Location matters for taxation. Imagine your scenario using Location:

$5500 IRA SWPPX
$5500 Taxable LFRAX

Look at the distributions, eg here is LFRAX first: http://etfs.morningstar.com/distrib...n-US&ops=&cur=USD&country=usa&productcode=COM

Screen Shot 2018-05-18 at 8.15.09 AM.png

Now look at SWPPX http://etfs.morningstar.com/distribution?t=SWPPX


Screen Shot 2018-05-18 at 8.17.12 AM.png


So we've got LFRAX in Taxable kicking off $0.4093 and SWPPX in IRA kicking off $0.7188, using 2017 as a guideline to what we might expect in 2018 (clearly it varies).

These income amounts are taxable in a taxable account, and sheltered in a retirement account. Also, they are listed on a 'per share' basis.

SWPPX trades at $42.22 and generates 0.7188 per share. Therefore, ($5500/$42.22)*0.7188 = annual income of $93.64
LFRAX trades at $9.19 and generates 0.4093 per share. Therefore, ($5500/$9.19)*0.4092 = annual income of $244.90

So your current asset location choice = accepting $244.90 into current income, but if you just flipped the two accounts around, you'd only receive $93.64 in current income.

Note that I'm not suggesting you do hold these two positions, but using the example here of how location impacts tax. Tax impacts returns.

Asset Allocation House-holding
If your perfect asset allocation really is 50/50 SWPPX and LFRAX, then it would clearly be more tax efficient to swap around your positions, and look at this account as a single, $11,000 account. This is 'householding'. The opposite approach is to hold 50/50 SWPPX and LFRAW inside each account and consider them in isolation. The householding concept can apply to everything. IE you consider 401K, IRA, Taxable, and Cash as one giant pot of money, and 'LOCATE' them smartly to lower tax. In this scenario, you might find that the taxable at $5500 is entire devoted to Muni Bonds, and you push equities into retirement accounts.

Householding is the most effective/efficient from a tax and cost perspective, but very hard to manage compared to using each account in isolation. A mix could be that you just throw in slightly riskier Target Date Funds into retirement accounts (set and forget) because you know you are blending away the risk in your taxable account via holding bonds.

Note that Municipal bonds are great for tax savings, but returns aren't great in relation to risk, so 3 Month Treasuries are also worth a look.. they do involve taxable income, but it is important to remember that taxable return is better than no return.

Asset Allocation Diversification and Rebalancing
The easiest way to allocate is going to be a self rebalancing fund. Target Date or Life Cycle or such. These include a mix of Stocks and Bonds. If one becomes out of allocation, the fund managers reset it for you, so you don't need to do any work. If people don't understand investments or don't want to spend the time managing the accounts I would strongly recommend an appropriate Target Date Fund as their solution. My caveat is that they have more risk than people think, so make sure you're aware that something that sounds innocent, like Target Date 2030 can drop by 30% in a crash.

I wouldn't hold a single fund like SWPPX or LFRAX in an account unless I was using a very subtle Householding strategy, and I would try to break it into 3 different funds in each account as soon as balances become viable. Ultimately, I would break it further. Or, use a Target Date type fund, because 1 fund like that already holds 3+ other funds, and covers a lot diverse investments for a simple allocation.
 
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