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Subject:  Re: Roth vs Traditional Date:  1/21/2013  11:26 PM
Author:  ptheland Number:  71289 of 88807

I think there is a small difference between the ideal choices for investments between Roth, Traditional, and after tax investing. But it's really only a question when you are doing all three kinds of accounts.

In your traditional IRA, all of your gains are eventually taxed as ordinary income. So you are best served by avoiding items that would be taxed at preferential tax rates. If you have a choice, put things that generate ordinary income in your traditional IRA. Capital gains and qualified dividends are better off in your taxable account.

Never buy anything that generates tax free income in a traditional IRA. It loses it's tax-free status and will be taxed as ordinary income when you withdraw the money.

There's some argument that more complex investments are convenient to put in your IRA - either traditional or Roth. REITS, REMICS and some other investments create complexity on your tax return. You avoid that complexity by putting them in an IRA. But be careful that you don't also forego significant tax benefits by doing so.

Partnerships are a possible exception to the complexity issue. They often generate income that is potentially taxable to your IRA if you hold them in an IRA. You can google Unrelated Business Taxable Income (UBTI) if you care to investigate that issue. Keep your UBTI under $1000, and you don't have a problem. The problem is knowing how much UBTI a partnership will generate before it generates the income. A good crystal ball would be handy for that. ;-) And some partnerships generate good cash flows that are tax-free (or more often, tax deferred). Those are better off outside of an IRA.

The planned non-taxable nature of Roth IRAs negate some of the issues with a traditional IRA. So capital gains and qualified dividends aren't as much of an issue there. I still wouldn't put tax-free interest income in a Roth. Yes, qualified distributions are also tax-free. But if you ever need to make a taxable distribution from a Roth (life happens!), you would again be converting tax-free income into taxable income. Ditto for the cap gains and qualified dividends. But you will reach a point in your life when you have met the qualifications for Roth withdrawals. At that point, these investments are fine in your Roth, as you no longer have the risk of taxable withdrawals.

These are all subtle issues. None of them will make or break your retirement. At best, they might add a small percentage to your available funds during retirement. But a small percentage is better than none, so the issues are worth keeping an eye on.

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