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The Secret to a Tax-Free Portfolio

NEW YORK (MainStreet) — Investment success is often based on pure performance, but in the long run keeping as much from taxation determines true wealth.

"It's not just what you earn but what you keep," said Elle Kaplan, founding partner of LexION Capital, an asset management firm.

If tax free is the name of the game, using a blend of buckets can reduce taxes today and in the future. Buckets include taxable, tax-deductible and tax-deferred, non-deductible and tax-deferred and tax-free.

"Tax allocation is vital in an investment portfolio," said Larry Rosenthal, a certified financial planner and president of Rosenthal Wealth Management Group in Virginia. "Most investors have saved their money in accounts that have never been taxed, making it much harder to efficiently distribute money in retirement. People sometimes forget the tax consequences they can face."

Factors and strategies that impact the amount levied include tax hikes in any given year, asset allocation, selection, security location, timing and alternative tax saving methods.

"Optimizing after-tax returns requires accounting for the impact of taxes on a portfolio's asset allocation and security selection," said Duncan Rolph, partner and managing director with Miracle Mile Advisors.

Also See: Study -- Retirement Assets Fall Short for Most

While tax efficient investing involves tax loss harvesting and efficient asset allocations relevant to taxable accounts, retirement accounts are a valuable receptacle for the more tax inefficient asset classes within a larger diversified portfolio.

"A client might place high yield bonds and other very tax inefficient funds in his retirement account and tax efficient municipal bonds and equities in his taxable accounts," Rolph told MainStreet. "They can also try to manage their income in retirement to lower their effective tax rate on distributions. In extreme circumstances, they might consider relocating to states with lower tax rates."

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