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Five Good Categories For 401(k)s and IRAs

So many tax-inefficient funds, so little space.

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There are a lot of ways to reach your goals in retirement accounts such as 401(k)s and IRAs. You don't need to go out of your way when looking for tax-inefficient funds that can take advantage of these vehicles' tax-deferred compounding. But if you are planning to buy a fund that's tax-inefficient, it makes sense to put it in your retirement account. With that in mind, I've selected five fund categories that are best held in a tax-sheltered account. I'll include a link to our Fund Analyst Picks for each category for Premium Members who want to cut to the chase. If you're wondering about a particular fund's tax efficiency, click the "Tax" tab when reading about any specific fund.

Convertible-Bond Funds
You don't need a convertible-bond fund--with its mix of stock and bond characteristics, it acts kind of like balanced funds--but such a fund does offer an attractive mix of risk and reward. You can see how that has played out by looking at a chart of Vanguard Convertible versus the S&P 500 Index over the past decade. By losing less in down markets, the fund significantly outpaced the stock market.

Because many hedge funds that used converts in their strategies folded in 2008, there has been more elbow room left for convertible investors. However, such funds are best kept in tax-sheltered accounts because convertibles throw off a lot of taxable income.

Russel Kinnel does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.