Asset Location Distribution in Advisor Core

Learn the assumptions and algorithms behind the asset location distribution in Advisor Core.

Assumptions

1. We use the total dollar value, and the percent of the portfolio in tax deferred, tax free, and taxable, from the Current portfolio to decide how to allocate the Proposed portfolio.
2. If an account tax status is unclassified, we assume it is a taxable account.
3. Any unmatched holdings will be allocated at the end of the process to whatever accounts still have room.

Algorithm

1. Taxable Bonds in Tax-Deferred Accounts

• Reason: Taxable bonds generate ordinary income, which is best sheltered in tax-deferred accounts. This placement avoids annual taxation and defers taxes until withdrawal.

• Threshold: Funds will be allocated according to their percentage allocation to taxable bonds. If there is still room in the tax-deferred account, any fund with at least 50% allocation to taxable bonds will be placed there.

2. High-Turnover Mutual Funds in Tax-Deferred Accounts, followed by Tax-free

• Reason: High turnover generates frequent taxable distributions, making them very tax-inefficient for taxable accounts. Tax-advantaged accounts shelter these distributions.
• Threshold: Funds with turnover rates above 50% should be prioritized for tax-advantaged accounts.

3. REITs in Tax-Free Accounts, followed by Tax-Deferred

• Reason: REITs generate non-qualified dividends taxed at ordinary income rates, making them highly tax-inefficient for taxable accounts. 

• Threshold: Holdings with real estate exposure above 50% should be prioritized for tax-free accounts.

• Reason: High-yield stocks produce significant taxable income (dividends), which can be sheltered in tax-deferred accounts to delay taxation and maximize compounding.
• Threshold: Individual stocks or funds with at least 50% stocks with at least 2.5% yield

5. Stocks in Tax-Free Accounts

• Reason: Stocks are likely to grow the most, thus generate the highest capital gains, which can be avoided in tax-free accounts. 

6. ETFs in Taxable Accounts

• Reason: ETFs are tax-efficient due to their in-kind redemption process, minimizing taxable distributions. Qualified dividends are taxed at lower rates, making them ideal for taxable accounts.

7. Low Turnover Mutual Funds in Taxable Accounts

• Reason: Index mutual funds with minimal turnover generate very few capital gains distributions, making them nearly as tax-efficient as ETFs. 

• Threshold: Less than 5% annual turnover.

8. Cash and cash equivalents in Taxable Accounts, followed by Tax Deferred

• Reason: Cash generates negligible taxable income, so the tax drag is minimal. It doesn't benefit significantly from tax-advantaged accounts. If there is no room left in taxable accounts, tax-deferred is preferable to tax-free because of the low growth potential of cash.

• Reason: Muni bonds generate tax-exempt income, which is best preserved in taxable accounts. Placing them in tax-advantaged accounts wastes their tax-exempt nature.

10. International Stocks in Taxable Accounts

• Reason: International stocks can receive foreign tax credit benefits when held in taxable accounts.
• Threshold: Individual stocks or funds with at least 50% international stocks.

11. Remaining Assets Allocated to Accounts that Still Have Room

• Reason: No substantial gains can be made with additional asset location rules.