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The Chestnut  

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  • Understanding The Taxation Of REIT Distributions [View article]
    That's odd. Usually, as a unit holder in a REIT, you should receive Form 1099. What kind of entity was WPC before it converted into a REIT?
    Feb 28, 2013. 02:41 PM | 1 Like Like |Link to Comment
  • Understanding The Taxation Of REIT Distributions [View article]
    Thanks for the additional points, Chris.
    Feb 28, 2013. 02:32 PM | Likes Like |Link to Comment
  • Understanding The Taxation Of REIT Distributions [View article]
    No, I don't.
    Feb 28, 2013. 02:31 PM | Likes Like |Link to Comment
  • Understanding The Taxation Of REIT Distributions [View article]
    Actually, that's exactly what I was implying. For some mortgage REITs that own a residual interest in a real estate mortgage investment conduit, it's possible that the income that the conduit generates could potentially constitute UBTI.
    Feb 28, 2013. 12:01 PM | Likes Like |Link to Comment
  • Tax Efficiency: Asset Class And Process Trump Vehicle Type [View article]
    Hey. This is a great article, but I would add a few caveats. First, while it's critical know which assets belong in tax-advantaged accounts, it's also important to know which tax-advantaged accounts work best for which assets. For example, REITs can be quite inefficient from a tax standpoint--and so, produce better after-tax returns in a tax-advantaged account--but are often better held in Roth IRA's rather than regular IRA's. The reason for the superiority of the Roth IRA over the IRA, with respect to REITs, lies in the fact that when funds are withdrawn from the IRA, they'll be taxed at ordinary income rates--effectively 'converting' the accumulated, long-term capital gains from the REIT distributions into ordinary income. (Not all of the REIT distributions consist of ordinary income; rather a portion usually consists of ordinary income, a portion of capital gains, and a portion of return of capital). Second, certain assets may trigger special taxes when held in tax-advantaged accounts. An investor must be aware of the UBTI tax when holding MLPs and certain mortgage REITs in a tax-advantaged account. Third, while investing certain assets in a tax advantaged account might boost tax efficiency in general, it's not appropriate for some investors. Certain investors may value liquidity or may be unable--due to the contribution limitations for IRAs, for example--to fully construct a portfolio within a tax-advantaged account. With that said, your article offers some great advice.
    Feb 27, 2013. 10:18 PM | Likes Like |Link to Comment
  • The Rising Risk Of Investing In Bond Funds And ETFs [View article]
    Hey Jim. Thanks for the article; it's a nice overview. I think you're wise to suggest investing in shorter-term bond funds; too often, pundits put forward this false dichotomy of either investing in bonds or pulling out of bonds. In reality, investing in shorter-term bonds would mitigate much of the interest rate risk, without robbing the portfolio of the main benefit of bonds: reduced volatility.

    A tougher question is whether the current economic climate--with interest rates at historic lows and a stock market that is potentially overvalued--calls into question the assumptions underpinning MPT in the first place. If so, then the issue's much bigger than merely, to invest in bonds or not to invest in bonds...
    Feb 24, 2013. 10:29 PM | Likes Like |Link to Comment
  • A New Way To Rebalance [View article]
    Granted, and good point. Thanks.
    Feb 23, 2013. 02:28 PM | Likes Like |Link to Comment
  • A New Way To Rebalance [View article]
    I view CPPI as a way of determining the initial asset allocation, and less as a rebalancing method. In any case, there's only so much I can cover in one article.
    Feb 23, 2013. 09:06 AM | Likes Like |Link to Comment
  • A New Way To Rebalance [View article]
    Hey Ian. Look at this study from Crestmont Research, a well-regarded financial research company used by many financial planners:

    They summarize data that shows the benefits of rebalancing more frequently in secular bear markets and less frequently in secular bull markets. The introduction to the report ( contains similar advice:

    “In strong trending markets, like secular bull markets, the best strategy is to get fully invested and remain so. Let the profits and over allocation in equities compound to your benefit. In choppy and volatile markets, a more frequent rebalancing approach can add significant additional return to an investor’s portfolio. Based upon recent secular market history, the risk (cost) of more frequent rebalancing in secular bull markets is far less than the opportunity from more frequent rebalancing in secular bear markets. Rebalancing is the active management technique that capitalizes on market cycles. Over-performance in one category (asset class) is shifted to another category to benefit from the second category’s later good performance."
    Feb 22, 2013. 03:10 PM | Likes Like |Link to Comment
  • 5 Tax Errors That Rob Your Portfolio Of Returns [View article]
    Hey! Great suggestions. This, by the way, is the problem with generic tax advice--it's nearly impossible to give and will always differ depending on a taxpayer's individual profile.

    You're right regarding the first portion of your first comment, on how the analysis changes with retirees who are withdrawing from their IRA's; I should have clarified that these tax errors and suggestions were mostly directed towards those who were still working and contributing to IRAs, rather than retired and withdrawing from them.

    As for the part of your first comment regarding asset selection, be careful not to think about this as an either/or scenario. It's entirely possible to treat your entire slate of accounts--both your taxable brokerage account and your IRA--as one big portfolio which, together, contains your entire asset allocation. For example, a 50% VTI and 50% AGG investor in his mid-40's who was still working could, for example, include VTI in his taxable account and include AGG in the IRA. Together, the two accounts comprise his entire portfolio allocation.

    Putting the contributions into a commission-free asset is an interesting strategy. I suppose one caveat would be that, depending on the volatility of that asset, this could potentially be a much riskier strategy than merely saving enough cash to trade.

    I totally agree with you on commission-free funds. They really are wonderful tools when it comes to rebalancing.
    Feb 22, 2013. 02:52 PM | Likes Like |Link to Comment
  • 5 Tax Errors That Rob Your Portfolio Of Returns [View article]
    I do like Reel Ken, by the way -- he has written several great articles regarding MLP taxation.
    Feb 22, 2013. 02:35 PM | 1 Like Like |Link to Comment
  • 5 Tax Errors That Rob Your Portfolio Of Returns [View article]
    Thanks for the link. The UBIT being triggered on the portion that's recaptured as ordinary income (after sale of the MLP units) is a great point, though it wouldn't change the analysis much. Basically, it just counsels against heavy trading in an IRA with large MLP positions that have significant deferred income imbedded in them. Splitting the MLP positions across multiple IRA accounts is still a possibility. Frankly, it comes down to the taxpayer's individual preferences, liquidity concerns, tax bracket, and other personal factors.
    Feb 22, 2013. 02:33 PM | Likes Like |Link to Comment
  • How To Intelligently Reload Your Dividend Portfolio [View article]
    Hey. One of the problems with this strategy, assuming it's executed in a taxable account and that the dividend stocks are held at a gain, is that the taxes owed on the sale will likely outweigh any appreciation in the treasuries. I recognize that you advise selling only "some" in this scenario, but "some" still needs to be substantial to engage in the ensuing buying spree. Plus, it's highly unlikely an investor will successfully battle his own behaviorial biases and time his purchases of the dividend stocks just right, so that he enjoys the upswing in treasuries and the upswing in dividend stocks. As you said, markets fluctuate--especially in secular bear markets. And this says nothing of the fact that, in the interim, both the yield producing the inflation protection and the remainder will be taxed--resulting in a lower after-tax return than 2%.

    Honestly, I think a wiser and more tax-friendly strategy is just to save cash in the ensuing months, and use this cash either regularly or on a market dip to increase positions in either those dividend stocks or a broad-based dividend ETF. Not only does this help mute the effect of behaviorial biases and produce a smaller tax bill, it also results in only one level of commissions.
    Feb 19, 2013. 03:20 PM | 4 Likes Like |Link to Comment
  • Does International Diversification Work? [View article]
    Thanks for the article. A lot of times, I feel like tough question is not so much, "Should a portfolio allocate a percentage to international stocks?" but rather, "How much should a portfolio allocate to international stocks?" The advice seems to fall all over the map on this question. I know emerging markets, for example, are quite volatile; increasing the portfolio's allocation beyond 12-15% seems to unduly increase the portfolio's standard deviation or volatility, without significantly increasing long-term returns. The proper allocation for large cap stocks from developed countries, in contrast, is a much more difficult question.
    Feb 19, 2013. 12:06 PM | Likes Like |Link to Comment
  • 5 Tax Errors That Rob Your Portfolio Of Returns [View article]
    Hi. Thanks! Great question. As with many tax questions, it depends.

    Let me start with a quick overview of how MLPs work, and then I will discuss some tax-efficient strategies for dealing with them. For all of this, I am assuming you’re interested in MLPs that are treated as partnerships (rather than as corporations) for tax purposes. Apologies in advance for the length; partnership taxation is notoriously complex, even when simplified.

    MLPs involve pass-through taxation. As a unit holder in an MLP, you are treated as if you are directly earning the MLP’s income. As a result, you are allocated your share of the MLP’s deductions, losses, credits, gain, and income. You will pay taxes on your share of the net income earned by the MLP. In addition, when filling out your tax return, you can apply the deductions and other benefits against your own, personal taxable income. Many of these benefits will also affect your basis in the MLP. For example, your share of the MLP’s income will increase your basis in the units, whereas your share of deductions will decrease your basis.

    Now, as a unit holder of the MLP, you will receive regular cash distributions. The cash distributions lower your basis in your partnership units; assuming your basis remains above zero, these distributions are treated as a return on capital and are not taxed upon receipt. If and when you sell your MLP units for a profit, however, you will recognize a gain equal to the excess of the sales price over your reduced basis. Much of this excess—your gain—will be taxed at ordinary income rates.

    Now, what is the most tax-efficient treatment for the MLP?

    Many CFP’s will counsel against putting an MLP in a tax advantaged account, like an IRA or 401(k). They often cite two main objections: (1) wasting the tax benefits of the MLP, and (2) UBIT. For (1), the idea is that MLPs offer certain tax advantages—such as deferral of income, on the distributions—which are wasted in an IRA or other tax-advantaged account. Since you already get deferral of income in these accounts, you 'waste' the MLP’s benefits by putting them in such an account. This is not too persuasive. Unlike other tax-friendly assets—like municipal bonds—you are not paying a price for the tax benefit (i.e. the yield is not lower, for example, as a result of the tax benefit as it is with municipal bonds). This means the disadvantages of holding it in a tax-advantaged account aren’t as great as holding municipal bonds in such an account. As for (2), the tax-advantaged account’s total share of net partnership income—income, specifically, not the distributions—over $1,000 is subject to a special tax known as a unrelated business income tax, or “UBIT” tax. This is a valid objection, but it’s possible to minimize the likelihood of incurring UBIT.

    My thoughts are as follows:
    (1) If you intend to trade MLPs frequently, then you are probably better off holding the MLP in a tax-advantaged account such as an IRA. To avoid the likelihood of incurring UBIT, you can avoid holding large positions in multiple MLPs in a single tax-advantaged account. Rather, split individual MLPs between multiple tax-advantaged accounts. Alternatively, a more conservative investor might want to own a diversified, MLP fund in a retirement account (rather than a single MLP). The fund avoids the complexities associated with the K-1 form, offers you diversification (but at the expense of yield and the pass-through benefits, such as claiming your share of the MLP’s deductions or losses), and avoids any potential of you paying UBIT.

    (2) If you trade infrequently, holding the MLP in a taxable, brokerage account is tax-efficient. You reap the benefits of its pass-through nature and its deferral of income.

    Phew! I hope this helps, and that it’s not too complex. Good luck!
    Feb 19, 2013. 11:36 AM | Likes Like |Link to Comment