Some investments should be held in regular, taxable accounts rather than in tax-deferred retirement plans. Image: William Potter/Shutterstock.com
By: FEDweek StaffThese investments work best inside your IRA or other tax-deferred retirement accounts:
Short-term holdings. If you do any in-and-out trading, trying for short-term stock market profits, do such investing inside your IRA. You won’t owe tax on short-term capital gains, which otherwise would be heavily-taxed as ordinary income.
Mutual funds that generate hefty tax bills. Some good funds regularly make large capital gains distributions to investors. They should be held inside your IRA.
Real estate investment trusts (REITs). Most REIT payouts are taxed at ordinary income rates, so they work best inside your IRA, where the tax can be deferred.
Taxable bonds. Interest from corporate bonds and mortgage-backed securities is subject to federal, state, and even local income tax, so it’s best to defer that tax inside a retirement plan. High-yielding junk bonds, in particular, belong inside your IRA.
These investments should be held in regular, taxable accounts rather than in tax-deferred retirement plans:
Cash. You probably should keep some funds in reserve, in case of emergency. This money should be held outside of a retirement account so you can get your hands on it without owing income tax.
Blue-chip stocks and stock funds. You may hold some large-company stocks as the backbone of your portfolio. If you’re a buy-and-hold investor, these stocks won’t generate much income tax every year so there’s little downside to holding them in a taxable account. When you do sell these stocks or funds, in the future, you probably will be able to take favorably-taxed long-term capital gains, if they’re held outside of a retirement account.
International stocks. You may get tax credits for foreign taxes withheld on foreign stocks and foreign stock funds. Such credits won’t save you any tax, inside a retirement account. In fact, you’d wind up paying double tax: the withheld foreign tax each year plus U.S. income tax on withdrawals. To utilize foreign tax credits and avoid double taxation, keep foreign stocks outside of your retirement account.
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