Overview: Research has shown that asset allocation determines the vast majority of market returns. But asset location can play an important role in the portfolio as well.

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Financial assets can be classified into various groupings (equity, fixed income, etc.). The process of dividing these different types of assets between tax-deferred, tax-free and taxable accounts to maximize the after-tax return of an investment portfolio is known as asset location (not to be confused with asset allocation). Note that maximizing tax-deferred contributions regardless of their specific allocation is the top priority of tax-efficient investing. However, the following asset location guidelines can help further maximize total after-tax return.

 

To the extent possible, investors should consider placing their tax-efficient equity holdings in taxable accounts and their fixed income and real estate in tax-deferred or tax-free accounts. Here are five reasons to put tax-efficient equity funds in taxable as opposed to tax-deferred accounts:

Investors can also maximize after-tax returns by placing tax-managed (TM) equity funds in taxable accounts when possible. Thus, if a TM fund is available for one asset class but not for another, an investor should consider placing the asset class with the TM fund in the taxable account. (Of course, TM funds should never be used in tax-deferred or tax-free accounts.)