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Location, Location, Location

Published by: Nathan Smith Date: March 12, 2018

This phrase has been heard by anyone that has ever tried to purchase or sell real estate and is the mantra of real estate professionals to this day. The origin of the phrase has been widely disputed by researchers, but it first appeared in a real estate classified ad in the Chicago Tribune in 1926. Most investors associate location in their investment portfolios with where and what vehicles they have put their money into such as stocks, bonds, mutual funds, etc. For investors that have accounts such as 401k’s, IRA’s, ROTH IRA’s, or taxable accounts, the location of where assets are held within these accounts will make a big difference on the total value of their portfolios over their lifetime. The reason is because each account type has its own tax treatment which can be optimized to maximize the after-tax return.
Let’s say that a married couple with $1 MM in total assets are split between a taxable account and an IRA account, and the portfolio has 50% in stocks and 50% in bonds. What would be the optimal location for these assets, and what would there ending values be after 30 years of investing? For this example we will assume that stocks earn 10% a year and bonds earn 5%, and tax rates of 25% for ordinary income and 15% long term capital gains.
Source: Kitces Blog: January 2014
In the chart above the location of assets in Scenario B brings the hypothetical investors an extra $1MM over the course of thirty years, and it has nothing to do with the investments and everything to do with asset location.
As advisors, a common question we hear from our clients is “Why is my spouse’s account doing better or worse than mine?”, and most of the time the answer is because of asset location. Stocks performed very well in 2017, and a taxable account with all stocks would have gained 22%, compared to an IRA account with all bonds of 3.5%. Blending the two portfolios together yields a return of around 12.75% for 2017.
So while it’s important to monitor individual account performance, investors should keep in mind that all of their individual accounts are working together to take advantage of asset location in order to achieve their long term financial goals.
As in real estate, location location location can be just as important for long term investors and can have a real impact in terms of portfolio value. At Rather and Kittrell, we construct client portfolios to take full advantage of tax efficiencies in order to maximize long term asset growth for clients. We have never come across anyone that wants to pay a dollar more of tax than they need to, which is why we’re so intentional with our clients’ asset location.
Nathan Smith is Portfolio Manager at Rather & Kittrell, and can be reached at