Life is filled with milestones that remind us to reevaluate our portfolios. It's a prudent idea to revisit your strategy periodically as you're building your assets. Here are two key considerations for choosing your approach and keeping your strategy on track.
When it comes to taxes, location counts
It's important to understand how accounts are taxed as well as how accessible they are over time. A creative mix of accounts maintains flexibility and can affect your strategy for meeting your current and future tax obligations. For instance, some accounts allow for growth until retirement age without the burden of taxation, but keep in mind that these assets are typically available only after age 59½ without penalty. Investments that generate frequent capital gains or income may be ideal for retirement accounts because their assets grow tax-deferred.
For more flexibility, non-retirement accounts could be a great place to store emergency funds and long-term stock investments. Emergency funds can be accessed without penalty and long-term stock investments when withdrawn, may be taxed at a potentially lower, long-term capital gains tax rate. You can also withdraw from these at any time, but reinvested income and distributions that live in these accounts may be taxed year-to-year.
Having a variety of account types can help you strategically withdraw funds in retirement to optimize the amount of taxes you pay. Learn about the different account types that Janus Henderson offers.
Consider the Roth IRA for tax-free withdrawal
Nearly all retirement accounts offer tax-deferred growth, but only a Roth IRA may be tax-exempt in that qualified distributions are tax-free. However, contributions to a Roth IRA are not tax deductible unlike a Traditional IRA, which is typically funded with tax-deductible contributions. Therefore, withdrawals from a traditional IRA are taxed as ordinary income.
Risk versus reward
Asset allocation is arguably the most important decision you will make as an investor as it will play a large role in determining your portfolio returns. As you consider your investment mix of stocks, bonds, cash and alternative investments, be sure to keep in mind your tolerance for risk, such as concentrations of investments and time horizon. Investments have different risks and potential for returns. It's up to you to decide what your proper mix will be.
Why diversification matters
Overexposure to certain types of investments can cause a concentration of risk in your portfolio. For example, if you only invest in U.S. stocks, the risks in your portfolio will reflect those of the U.S. stock market and companies that you have selected. In other words, expect volatility from price fluctuations in the companies you own and broad-based economic factors that impact the stock market. Pay attention to duplications of equity types, such as a concentration of large-cap stocks throughout different accounts. If your funds appear to move together in one direction, you may consider diversifying to include equities that move contrary to another group.
Even bonds can react unpredictably, and prices may fall as interest rates rise, so be aware of where your assets lie. Over time, diversification can help you spread out the risks in your portfolio and potentially create an investment mix that attempts to avoid wild swings in performance.
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Planning your asset allocations can help you map out an allocation strategy that suits your risk tolerance.