Stocks in Roth and Bonds in 401k To Minimize Taxes

Most people have a mix of stocks and bonds in their retirement accounts.      Stocks are expected to grow faster than bonds in the long run.    If you put your stock investments in a tax free account and your bonds in a pre-tax account you'll come out a bit ahead in retirement. 

Lets illustrate this with an example.   Pretend you've got $100,000 split evenly between Roth and 401k accounts with $50,000 in each.   Now say you've got a 50 stock / 50 bonds allocation.    That would give you $25,000 in stocks and bonds in each account.   Now say your stocks grow 10% over 20 years and the bonds grow 5%.    Assume you've got a 33% tax rate on your 401k withdrawals.

	Roth 70/30	410k 70/30
stock	$25,000	$25,000
bond	$25,000	$25,000
10% for 20yr	$168,187	$168,187
5% for 20y	$66,332	$66,332
total	$234,520	$234,520
tax	$0	$77,392
after tax	$234,520	$157,128
TOTAL	$391,648

Now instead put all the stocks in the Roth and all the bonds in the 401k and you get :

	Roth 70/30	410k 70/30
stock	$50,000	$0
bond	$0	$50,000
10% for 20yr	$336,375	$0
5% for 20y	$0	$132,665
total	$336,375	$132,665
tax	$0	$43,779
after tax	$336,375	$88,885
TOTAL	$425,260

In the end you've got about 8.5% more money simply due to allocating your investments per the tax advantages.

Note:   I'm not saying that you should *only* have stocks in the Roth and bonds in the 401k.    In the above example its set up that way just to illustrate.  If you had a 70/30 split allocation then you'd still need some bonds in your Roth.    Further, reallocating periodically to keep a specific % asset allocation isn't possible if all your stocks are in one and all the bonds are in the other.

Admittedly this is pretty contrived example, but I did that to illustrate the point.    Its more likely you'd have money invested periodically annually over a long period rather than starting with a lump sum and its also likely your effective tax will be lower. 

I didn't come up with this idea, but I can't recall where I saw it.

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