Optimizing Your Asset Location

When it comes to building long-term wealth, the focus tends to be on what assets someone is invested in (stocks, bonds, real estate, etc.). But did you know where you choose to hold those investments can be just as important as what you’re invested in? That’s where asset location comes in.

Asset location is a powerful and often overlooked strategy for achieving tax-efficient returns within your portfolio without changing the specific assets you’re invested in. Let’s examine the basics of asset location and what investors need to know before making adjustments to their portfolios.

What Is Asset Location?

Asset location refers to the specific accounts where your assets live. Developing an asset location strategy involves finding the most favorable asset location for an investment based on the tax treatment of that account.

You probably noticed by now that “asset location” sounds close to “asset allocation.” The two are different, but they work together within your portfolio. Asset allocation refers to dividing your capital across various asset classes like stocks, bonds, and cash to balance risk and return.

3 Asset Locations to Consider

With asset location, the goal is strategically positioning assets in one of three locations—taxable, tax-deferred, or tax-free accounts—to minimize taxes and maximize long-term growth potential.

1. Tax-Deferred Accounts

Tax-deferred accounts include retirement-savings vehicles like traditional IRAs and 401(k)s. 

In a tax-deferred account, your contributions to the account are made with pre-tax dollars, and any earnings within the account grow tax-deferred until a withdrawal is made (meaning you don’t have to pay taxes on your 401(k)’s earnings each year leading up to retirement). You also benefit by deducting contributions from your taxable income, which may help lower your total tax liability for the year. 

Once it’s time to withdraw, anything coming out of the account is taxed as ordinary income.

2. Tax-Free Accounts

The most common examples of tax-free accounts include Roth IRAs and Roth 401(k)s. Contributions to these accounts are made with after-tax dollars, which means you don’t receive a tax deduction up front. 

There is, however, a key trade-off to losing the immediate tax benefit. Earnings in the account grow tax-deferred, and as long as you make a qualified withdrawal that meets all criteria, you can enjoy tax-free income in retirement. 

3. Taxable Accounts

Taxable accounts, such as individual or joint brokerage accounts, don’t offer specific tax advantages, but they still serve an essential purpose within your portfolio.

In your taxable accounts, you’ll likely earn things like interest, dividends, or capital gains, which you’ll need to report on your tax return annually (though specific tax liability will vary). 

That being said, taxable accounts offer investors two significant advantages that the other accounts don’t: liquidity and flexibility. Your taxable account is not subject to minimum age requirements, as your 401(k), IRA, and Roth accounts are. No minimum distributions are required since you pay your tax bill annually. You can access the funds and growth within your taxable brokerage account at any time.

Another advantage? Some earnings are subject to more favorable tax treatment, including long-term capital gains tax (we’ll get more into this in a minute).

Tax-Inefficient vs.Tax-Efficient Investment Types

Particular investments are more tax-efficient than others, and knowing the difference can help you decide where certain assets belong:

Tax-Inefficient investments refer to those that generate ordinary income, meaning profits are taxed at the same ordinary income tax rate as your other income sources. For 2025, the highest federal ordinary income tax rate is 37%.

Some common examples of tax-inefficient investments include:

• Bonds and bond funds
• Real estate investment trusts (REITs)
• Mutual funds with high turnover rates
• Investments generating non-qualified dividends

Tax-efficient investments, on the other hand, have the potential to receive preferential tax treatment. For example, investments held for longer than a year before being sold may be subject to long-term capital gains tax. This caps out at 20%, meaning it tends to incur lower tax liability than gains taxed at the ordinary income tax rate (which is known as the short-term capital gains tax rate). 

Common examples of tax-efficient investments include:

• Individual stocks (held long-term)
• Low-turnover index funds
• ETFs
• Municipal bonds

How to Use Asset Location Strategically

Now the question is, which assets belong in what accounts? Here’s a brief explanation of what types of investments may make the most sense based on each account’s unique tax qualities.

What to Hold in Tax-Deferred Accounts

Tax-deferred accounts are generally the most effective vehicle for tax-inefficient investments. They enable the income to compound each year without imposing immediate tax consequences. 

These accounts can be especially valuable during your working years while steadily saving for retirement. Once in retirement, however, withdrawals will require careful planning since they may lead to significant tax bills.

What to Hold in Tax-Free (Roth) Accounts

Roth accounts may be beneficial for holding investments with the highest growth potential, such as stocks or funds, since these may generate significant appreciation over time. Holding these assets in a Roth account can shield their growth from taxes entirely. 

Roth accounts are also ideal for transferring wealth to loved ones for a few reasons. They don’t have required minimum distributions (RMDs) during the original account holder’s lifetime, and your heirs can benefit from continued tax-free growth (though they may be subject to withdrawal timelines).

What to Hold in Taxable Accounts

You may pair your taxable accounts with some of your more tax-efficient investments, including municipal bonds, ETFs, or individual stocks held for longer than a year. Following this strategy can help keep your tax liability in check while still providing access to funds when needed. Taxable accounts also enable investors to use tax-saving strategies like tax-loss harvesting or gifting appreciated securities.

Need Help Optimizing Your Asset Location Strategy?

Ignoring asset location can lead to higher tax bills both now and in retirement. For investors with more complex portfolios, tax inefficiency can lead to a higher marginal tax rate, meaning you’re sending more to Uncle Sam than is necessary. However, when used effectively, asset location can help you keep more of what you earn.

At Michael Brady & Co., we help clients build custom, coordinated strategies that align all aspects of their wealth with their long-term goals. If you haven’t reviewed your asset location strategy recently—or you’re unsure your portfolio is as efficient as it could be—we’re here to help. Let’s schedule a meeting to discuss your concerns and explore opportunities based on your unique needs.