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Wednesday, September 15, 2010
You're probably thinking this post is about real estate. After all, this has long been the mantra in the real estate estate market - even during the housing bust.
But location is also important in investing. In fact, it is typically the most popular take away item from seminars because it immediately saves people money and is easy to implement.
Every individual's situation is a bit different, so the following shouldn't be taken as specific advice.
The first step is to get all your accounts out and sort them into non-qualified accounts and qualified accounts. Non-qualified accounts are typically your basic savings accounts. The key is that you pay taxes on any interest earned on these accounts as you earn the interest. For example, if you have a 3-year certificate-of-deposit (CD) at your local bank, you record the year's interest and pay taxes on it. If you are in the 33% tax bracket and earn $100 in interest, you get to keep $66. On the other hand, if the $100 was a qualified dividend, you would get to keep $85!
Your qualified accounts are your IRAs, 401ks, 403bs etc. These accounts are qualified under the Internal Revenue Code such that they are allowed to grow tax free. They are taxed when funds are drawn out - typically at retirement.
The strategy, then,, is very simple. To the extent possible, try to minimize the interest earned in non-qualified/basic savings accounts. Instead, seek long-term capital gains and qualified dividends in these accounts. On the other hand, use your IRAs and 401ks for your bonds, bond funds, CDs etc. , Let the interest stay in the fund and compound until it is withdrawn in retirement.
Thus, if your asset allocation is 60% stocks, 30% fixed income, 10% cash then locate your investments as follows: put cash in taxable accounts (at today's interest rates it doesn't matter!), put bonds and bond funds in your IRA/401k (and reduce this year's taxes), put stocks in both your taxable accounts(seeking long-term cap gains and qualified dividends) and qualified accounts.
As always, consult with your tax accountant and investment advisor to assess the appropriateness of investment advice for your specific case.