Author Topic: High Yield Vanguard Index Funds (Tax Efficient)  (Read 7993 times)

NWOutlier

  • 5 O'Clock Shadow
  • *
  • Posts: 82
  • Age: 50
  • Location: Seattle Area
High Yield Vanguard Index Funds (Tax Efficient)
« on: March 07, 2014, 06:31:21 PM »
Hi Everyone,

First - let me start off with "I am a newbie" - There... I said it.

Ok - I have a 401k, spousal roth IRA, roth IRA for myself, a cap one 360 savings and a taxable Vanguard account that I want to use to build cash flow and work towards ER.... so, I do not know how to evaluate an appropriate index fund to use in the taxable account...

I was going to use an REIT, but thankfully, through this blog and bogleheads - I've learned that REIT's (VGSLX or https://personal.vanguard.com/us/funds/snapshot?FundId=5123&FundIntExt=INT) are taxed differently and should be placed in my tax advantaged accounts.  Great, but I do love the just about 4% yield from dividends...

so, I looked for something else, and found VWEAX https://personal.vanguard.com/us/funds/snapshot?FundId=0529&FundIntExt=INT#tab=0.  a 0.13 exp ratio and a 4ish % yield....

My question isn't "should I buy VWEAX?" - more so, how can I evaluate the fund from the information provided from the site?  how do I know this is or is not tax efficient?  what are the key points I should focus on?

Anyway, any input is very welcomed, and I do not hold anyone responsible for my decisions on purchases... I'm just looking for a sounding board..

Let me have it! start shootin!

Thanks in advance,

Steve

NWOutlier

  • 5 O'Clock Shadow
  • *
  • Posts: 82
  • Age: 50
  • Location: Seattle Area
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #1 on: March 07, 2014, 06:43:41 PM »
Ah, another question to include; when looking at each index fund, if one pays higher on the dividend (4 cents instead of 3 cents for example) -- how can I tell which index fund is better?  I can't base my decision on the dividend amount, right?

VBLTX (https://personal.vanguard.com/us/funds/snapshot?FundId=0522&FundIntExt=INT#tab=4)with an expense ratio of .20,  is a contrast to VWEAX https://personal.vanguard.com/us/funds/snapshot?FundId=0529&FundIntExt=INT#tab=0.

So, the higher expense ratio for VBLTX for the higher dividend.... 

So confused.

Steve

the fixer

  • Handlebar Stache
  • *****
  • Posts: 1037
  • Location: Seattle, WA
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #2 on: March 07, 2014, 06:45:52 PM »
Other than muni bonds, no yield is really "tax efficient." The most tax efficient assets will be ones that appreciate with no yield, then you only pay taxes when you sell as long-term capital gains.

As for VWEAX... I'm pretty sure bond interest is not considered a qualified dividend, so you will be taxed at ordinary income rates for it. Very inefficient. Also the high default risk of the bonds in this fund would lead me to question whether you actually get the 4% you think you'll get. I dabbled in muni bonds last year and, even after taking all the interest payments into account, I actually lost a bit of money on the investment.

If you really want dividends, use stocks. I don't know of any Vanguard funds that specialize in maximizing yield though, so even though you can get 4%+ from dividend stocks I don't know of a fund that does so.

the fixer

  • Handlebar Stache
  • *****
  • Posts: 1037
  • Location: Seattle, WA
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #3 on: March 07, 2014, 06:55:46 PM »
Ah, another question to include; when looking at each index fund, if one pays higher on the dividend (4 cents instead of 3 cents for example) -- how can I tell which index fund is better?  I can't base my decision on the dividend amount, right?
With bond funds you need to consider average duration and the grade of the bonds in the fund. Both of these factors tell you how much risk you're taking, so you can determine if you're being adequately compensated for that risk.

VBLTX is a long-term bond index fund with a high average duration. This means you're taking a risk that your investment will lose value if interest rates go up (because investors could just buy new bonds at higher rates than buy the lower-yield ones the fund currently holds).

VWEAX has a pretty moderate average duration, but the bonds are literally junk. They are rated very poorly, meaning a ratings agency has judged the issuers of these bonds to be unreliable at paying back the debt. A certain percentage of them will probably default. When a bond defaults it becomes worthless (unless there's some partial payback settlement made) and the interest stops coming.

Both of these funds are very risky investments. You should probably learn a bunch more about the bond market before dabbling in these, it's not as simple as yield.

NWOutlier

  • 5 O'Clock Shadow
  • *
  • Posts: 82
  • Age: 50
  • Location: Seattle Area
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #4 on: March 07, 2014, 07:18:12 PM »
Glad I asked!

Ok.  Without understanding the details yet... I'll do some reading.  It gives me confidence that just leaving my VTSAX in my taxable account is sufficient.

I wonder how other people allocate their taxable accounts? 

 

Mr Mark

  • Handlebar Stache
  • *****
  • Posts: 1149
  • Location: Planet Earth
  • Achieved Financial Independence summer 2014. RE'18
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #5 on: March 07, 2014, 07:49:04 PM »
Recommended order for putting into tax scheltered accounts:
- bonds
- managed funds (higher churn of realised gains)
- high dividend payout funds and ETFs
- index funds
- individual stocks buy and hold only
- municipal bonds (tax free in usa)

YMMV

skyrefuge

  • Handlebar Stache
  • *****
  • Posts: 1000
  • Location: Suburban Chicago, IL
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #6 on: March 07, 2014, 09:39:21 PM »
It gives me confidence that just leaving my VTSAX in my taxable account is sufficient.

Yup. You don't need any particular type of fund to generate cash flow. Simply selling shares of stock funds is just as good of a way (and often better) than any other to generate cash. On top of that, even if you *were* dead set on generating retirement cash with a particular method (bonds interest, REITs, dividends, capital gains, etc.), there's no reason to have your money in that particular cash-generating asset until you're actually needing to spend that cash.

You DO need to decide want you want your overall asset allocation to look like, and you should use your risk tolerance to determine that, not your cash-generating needs.

wtjbatman

  • Handlebar Stache
  • *****
  • Posts: 1314
  • Age: 34
  • Location: Missouri
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #7 on: March 08, 2014, 05:39:23 AM »
Vanguard's two stock dividend funds are VYM and VIG. VYM is Vanguard High Dividend Yield ETF (focuses on higher yield now), expense ratio .10%, yield is 2.82. VIG is Vanguard Dividend Appreciation Index (focuses on dividend growth stocks), expense ratio .10%, yield is 1.85.

Neither yield even close to 4%. For that type of yield, you would need to invest in individual dividend stocks. Funds like VYM and VIG are good if you either don't feel comfortable picking your own dividend stocks yet but want to get into dividend investing, or want to buy a more diversified portfolio of stocks than you can likely do on your own, especially just starting out.

tj

  • Handlebar Stache
  • *****
  • Posts: 1225
  • Age: 33
  • Location: Phoenix
    • Arcadia Power
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #8 on: March 08, 2014, 12:22:35 PM »
It gives me confidence that just leaving my VTSAX in my taxable account is sufficient.

Yup. You don't need any particular type of fund to generate cash flow. Simply selling shares of stock funds is just as good of a way (and often better) than any other to generate cash. On top of that, even if you *were* dead set on generating retirement cash with a particular method (bonds interest, REITs, dividends, capital gains, etc.), there's no reason to have your money in that particular cash-generating asset until you're actually needing to spend that cash.

You DO need to decide want you want your overall asset allocation to look like, and you should use your risk tolerance to determine that, not your cash-generating needs.

The problem with selling VTSAX when you need cash is that you can't invest more into the fund for a certain period of time, I don't think this same limitation is on the ETF version.

skyrefuge

  • Handlebar Stache
  • *****
  • Posts: 1000
  • Location: Suburban Chicago, IL
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #9 on: March 10, 2014, 09:38:39 AM »
The problem with selling VTSAX when you need cash is that you can't invest more into the fund for a certain period of time, I don't think this same limitation is on the ETF version.

Well, ok. It sounds like this is workaroundable, even without using the ETF. But then, as you say, there's always the ETF too.

More importantly, I can't imagine this ever being an issue for a real-life person. Once you flip the switch and become a spender of retirement assets rather than a saver of retirement assets, the switch tends to stay flipped, and doesn't bounce back-and-forth between the two states. Or if it does (you decide you don't like retirement and go back to work), it does it at a much slower frequency than the 60-day frequent trading limit.

droh82

  • 5 O'Clock Shadow
  • *
  • Posts: 19
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #10 on: March 10, 2014, 12:47:39 PM »
It gives me confidence that just leaving my VTSAX in my taxable account is sufficient.

Yup. You don't need any particular type of fund to generate cash flow. Simply selling shares of stock funds is just as good of a way (and often better) than any other to generate cash. On top of that, even if you *were* dead set on generating retirement cash with a particular method (bonds interest, REITs, dividends, capital gains, etc.), there's no reason to have your money in that particular cash-generating asset until you're actually needing to spend that cash.

You DO need to decide want you want your overall asset allocation to look like, and you should use your risk tolerance to determine that, not your cash-generating needs.

The problem with selling VTSAX when you need cash is that you can't invest more into the fund for a certain period of time, I don't think this same limitation is on the ETF version.

How come you cant invest more into VTSAX for a period of time?

the fixer

  • Handlebar Stache
  • *****
  • Posts: 1037
  • Location: Seattle, WA
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #11 on: March 10, 2014, 12:57:50 PM »
How come you cant invest more into VTSAX for a period of time?
If lots of people are constantly buying and selling the fund, the fund in turn needs to constantly buy and sell shares (or equivalent instruments). Each transaction the fund makes incurs a cost, so the amount of people buying/selling directly affects the fund's expenses. Vanguard can't offer a 0.05% expense ratio unless it prevents people from doing frequent trading and keeping the fund's balances stable.

I agree with skyrefuge, this limitation would not realistically impact your ability to realize income from the investments by selling shares. You either are accumulating your investments or depleting for income, doing both at the same time would just be silly and inefficient.

wtjbatman

  • Handlebar Stache
  • *****
  • Posts: 1314
  • Age: 34
  • Location: Missouri
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #12 on: March 10, 2014, 10:24:16 PM »
It gives me confidence that just leaving my VTSAX in my taxable account is sufficient.

Yup. You don't need any particular type of fund to generate cash flow. Simply selling shares of stock funds is just as good of a way (and often better) than any other to generate cash. On top of that, even if you *were* dead set on generating retirement cash with a particular method (bonds interest, REITs, dividends, capital gains, etc.), there's no reason to have your money in that particular cash-generating asset until you're actually needing to spend that cash.

You DO need to decide want you want your overall asset allocation to look like, and you should use your risk tolerance to determine that, not your cash-generating needs.

The problem with selling VTSAX when you need cash is that you can't invest more into the fund for a certain period of time, I don't think this same limitation is on the ETF version.

How come you cant invest more into VTSAX for a period of time?

It's called a wash sale, and it's illegal. It's also very easy to get around (find the ETF equivalent of your mutual fund, or vice versa).

skyrefuge

  • Handlebar Stache
  • *****
  • Posts: 1000
  • Location: Suburban Chicago, IL
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #13 on: March 10, 2014, 11:20:22 PM »
It's called a wash sale, and it's illegal.

No, no, and no.

1) To even be a wash sale in the first place, the security being repurchased had to first be sold at a loss.
2) A wash sale is not illegal. It's only illegal to make a wash sale and claim the loss as a tax deduction.
3) Vanguard has a frequent trading policy for the reason the fixer posted. They are not trying to prevent wash sales.

wtjbatman

  • Handlebar Stache
  • *****
  • Posts: 1314
  • Age: 34
  • Location: Missouri
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #14 on: March 10, 2014, 11:33:45 PM »
Oops, I definitely misread a couple posts. That's what I get for skimming them while at work. My bad!

Of course, people do claim losses as tax deductions, then do the workaround of buying the equivalent ETF, but that's not what's going on in this case, so my oops still applies, hah.

foobar

  • Pencil Stache
  • ****
  • Posts: 731
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #15 on: March 11, 2014, 08:10:42 AM »
Bond yields are ordinary income. Munibonds are great for high income people.  That 3% yield turns in to 5.75 when your living in a state like CA (39.4% fed, 13% state). For lower income people the advantage drops.  And yes bonds go up and down in value so you have to evaluate the risk. In general the higher the yield, the higher the risk.

And for what it is worth buying the ETF version of your mutual fund is likely a wash sale as they are substantially the same. It is also likely selling a S&P 500 index fund from vanguard and buying one from fidelity is also a substantially same asset. Last I checked there had not been a tax ruling confirming it but most of the experts thought that was how the ruling would come down.


Other than muni bonds, no yield is really "tax efficient." The most tax efficient assets will be ones that appreciate with no yield, then you only pay taxes when you sell as long-term capital gains.

As for VWEAX... I'm pretty sure bond interest is not considered a qualified dividend, so you will be taxed at ordinary income rates for it. Very inefficient. Also the high default risk of the bonds in this fund would lead me to question whether you actually get the 4% you think you'll get. I dabbled in muni bonds last year and, even after taking all the interest payments into account, I actually lost a bit of money on the investment.

If you really want dividends, use stocks. I don't know of any Vanguard funds that specialize in maximizing yield though, so even though you can get 4%+ from dividend stocks I don't know of a fund that does so.

hodedofome

  • Handlebar Stache
  • *****
  • Posts: 1210
  • Age: 38
  • Location: Texas
Re: High Yield Vanguard Index Funds (Tax Efficient)
« Reply #16 on: March 11, 2014, 10:02:10 AM »
A high-yield bond fund essentially has the volatility of a stock, it is not 'safe' in the sense that investment-grade bonds are.

That being said, yields have come down for everything. This no-interest rate environment that the Fed has pursued has had everyone chasing yield, bidding prices up, which in turn pushes yields down. The most overvalued stocks in the US market are high-yielding dividend stocks. Just keep that in mind for long-term returns...

MLPs can be a very tax-efficient way to get decent yield (4-5%+) but you must understand them, understand the risks, as well as the unique tax structure before considering them. I used to be invested in them and I hardly ever owed taxes on the distributions (they are called distributions in a MLP not dividends).