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Balancing portfolio returns with tax efficiency


Tips for creating a tax-efficient portfolio


Joel Dickson of Vanguard Investment Strategy Group says investors often put tax-efficiency ahead of portfolio growth. Dickson suggests when considering tax-efficiency think holistically and instead about how to maximize your return.

Other highlights from this webcast:


Notes:
  • All investing is subject to risk, including the possible loss of the money you invest. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income. Diversification does not ensure a profit or protect against a loss.
  • This webcast is for educational purposes only. We recommend that you consult a tax or financial advisor about your individual situation.
  • It is possible that funds will not meet their objective of being tax-efficient.
© 2016 The Vanguard Group, Inc. All rights reserved.  

Emily Farrell:
Matt from Cary, Illinois, Joel, asks us, “How do you balance attaining portfolio growth with tax efficiency?”

Joel Dickson: Yes, I think sometimes people think too much about their investments and the tax impacts of that being separate. But, really, what we’re talking about with tax efficiency is not so much about minimizing taxes, though that may be one strategy, but it’s about maximizing your overall return. I like to think of it in sort of two ways. Yes, we need to talk and think about tax-efficient investments, but you also need to be a tax-efficient investor. And being a tax-efficient investor means doing things like maximizing tax-deferred investment accounts like IRAs and 401(k)s. It means locating assets in the appropriate place where you can take advantage of differences in, say, tax efficiency. And I’m sure we’ll talk about that as we go on. And then it’s also about what types of individual investments might work best in each of those accounts.

Emily Farrell: Yes, so that’s a good point. Now we’re touching on a vehicle versus product a little bit in that.

Joel Dickson: Yes.

Emily Farrell: And Al from Frisco has a great follow-up question. He asks, “Can you ignore tax efficiency in tax-favored accounts?” So I guess the answer is no. So perhaps you could delve into that a little bit.

Joel Dickson: Yes, to a certain extent, yes, what do we mean by tax efficiency, right? And it is, it’s exactly that, Emily. It’s the product versus the portfolio. So if you think about your total investment plan or portfolio, many people, most people have a combination of tax-favored accounts like IRAs or 401(k)s and taxable accounts. And while it’s true that for a product within an IRA, for example, you don’t need to necessarily worry about the tax impact in terms of things like your trading activity, realizing gains, or capital gain or dividend distributions from that on an ongoing basis, it’s still the case that maximizing your overall after-tax return is enhanced by being smart about how much you contribute to tax-favored investment vehicles. And, generally, you’re going to want to maximize the amount that you can sort of shelter from year-to-year taxes. And one way to do that is to use tax-favored investment vehicles like IRAs and 401(k)s to build your wealth.

Important information All investing is subject to risk, including the possible loss of the money you invest. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income. Diversification does not ensure a profit or protect against a loss. This webcast is for educational purposes only. We recommend that you consult a tax or financial advisor about your individual situation. It is possible that funds will not meet their objective of being tax-efficient. © 2016 The Vanguard Group, Inc. All rights reserved.

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