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Investing Specialists

Is Your Retirement Portfolio Ready to Do the 'Twist'?

For retirees tapping their assets, the rules on asset location are different than they are for accumulators.

The conventional rules of thumb on asset location--which assets to put in your taxable accounts and which to hold in tax-sheltered vehicles--are pretty straightforward and intuitive. Because bond income is taxed at your ordinary income tax rate, it's the most onerous from a tax standpoint. Thus, you'd generally want to park the bulk of your fixed-income assets in your tax-sheltered accounts because you won't owe taxes on those assets on a year-to-year basis. Meanwhile, equities, especially non-dividend-payers, tend to be more tax-efficient so are therefore a good fit for taxable accounts.

But there's a problem, especially for those nearing or in retirement: The rules about sequencing in-retirement withdrawals--deciding which assets to draw from which account types and when to do it--are at odds with the standard asset-location rules. As I outlined in this article, retirees will generally want to start by liquidating those assets that are most costly from a tax standpoint on a year-to-year basis--starting with required minimum distributions, moving to taxable accounts, and then segueing to traditional IRAs and 401(k)s. Roth assets, which have the longest-lasting tax-saving attributes and are also the most advantageous when left to heirs, should be tapped last.