Financial Planning

Asset allocation is the percentage of money you invest in different areas. These areas usually involve stocks, bonds and cash. Depending on your wealth level, asset location may be much more than asset allocation, but not many people understand why.

Let’s take a look at a common example. Imagine you have a couple of million in investments – half of which are in an IRA and the other half that are in a personal account. As you know, income taxes are due on stock dividends and bond interests in your personal account, as are capital gain taxes on stocks and bonds that are sold. On the flip side, no taxes on any investments in your IRA are taken during the accumulation phase of life. This phase ends at 70.

Now let’s consider an asset allocation of 60/40 stocks and bonds. You could consider corporate bonds, which pay a higher rate of interest, but with the interest being taxable, or municipal bonds that pay a lower rate of interest, but where the interest is tax free. How do you know which investments to place in the personal account and which investments to put in your IRA?

Peter Culver thinks there is a common formula for most investors. The formula is to buy municipal bonds for your personal accounts and government or corporate bonds for your IRA. The logic is this: all the interest on municipal bonds is tax free in a personal account. The interest on the government or corporate bonds will also be tax free in an IRA, because you don’t pay income taxes on investments that are placed in an IRA.

Now, let’s take a look at your bonds. With 40% invested there, you would have $800,000 to work with. When it comes to municipal bonds, there is usually a 4% interest rate and a 5% interest rate on government or corporate bonds. But here is the catch on the annual interest rates:  if you have government or corporate bonds in your personal account, all the interest is subject to tax. This tax will take out 1/3 of the income you could have been earning. Just a simple mistake like this could cost you hundreds of thousands of dollars over the years.

Knowing where to place your investments between your IRA and personal account is just as important – if not more important – than the percentages in which you allocate them. Peter Culver is excited for the opportunity to discuss asset location with you and help ensure your financial future is as lucrative as it should be.

For more information about this particular subject or any financial issue, don’t hesitate to contact Peter Culver at pculver928@gmail.com or 917.697.4156.