|YOUR INVESTMENTS: SHOULD
HAVE THEM IN A TAXABLE OR TAX-DEFERRED ACCOUNT?
By Stephen J. Kahn, CPA
If your investments include a variety of bond and stock mutual funds, how should you allocate them between taxable accounts and tax-deferred accounts, such as IRAs and 401(k)s?
Conventional thinking is that you should shelter the annual income from bond funds and high-dividend stock funds by keeping them in your tax-deferred accounts. Meanwhile you keep your growth stock funds, where the return comes mostly from capital appreciation, in your taxable accounts. There you can take advantage of the lower tax rates on long-term capital gains.
But these rules donít always apply. For example, if you frequently buy and sell stocks, youíll tend to generate short-term capital gains that are taxable at ordinary income rates. In this case, you may be better off in a tax-deferred account. Generally, you should keep stock investments in a tax-deferred account if you trade actively, if youíre relatively young and have many years for your investments to grow, or if you invest in funds that generate a high proportion of short-term capital gains or current income. Keeping stocks in a taxable account may be favored if you invest mainly in index funds, which produce relatively few capital gains, or if you trade your investments infrequently.
The rules for Roth IRAs are different, because all earnings in these accounts are tax-free. So keep those investments which generate the greatest total earnings, such as aggressive growth funds, in your Roth IRA.
One rule is clear, though. Never put tax-deferred investments such as annuities or tax-free municipal bonds in a tax-sheltered IRA or 401(k). Not only are you duplicating the tax-deferral, but with tax-exempt bonds youíll earn a lower return and convert what would be tax-free income into a taxable distribution.
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(Stephen J. Kahn is a Certified Public Accountant
and an Alexandria resident. The reader is cautioned that this information
may not be applicable to the readerís specific circumstances or needs.
The reader should contact a tax professional prior to taking any action
based upon this information. Stephen J. Kahn, CPA assumes no obligation
to inform the reader of any changes in tax laws or other factors that could
affect the information herein.)
Kahn, CPA PLLC