Some funds’ values shrink under a heavy tax burden, but that doesn’t mean there isn’t a place for them. In fact, according to Russel Kinnel at Morningstar, tax-sheltered 401(k)s and IRAs are the perfect place for them. Kinnel calls out five fund categories that are worth considering for your clients’ retirement accounts.
- Convertible bond funds. These funds mix stock and bond characteristics, and behave like balanced funds, Kinnel writes. “However, such funds are best kept in tax-sheltered accounts because convertibles throw off a lot of taxable income,” he cautions.
- Conservative long-short funds. Last year demonstrated how valuable funds that move independently of the stock market can be. Unfortunately, a lot of these funds are tax-inefficient and require high turnover. Kinnel warns that some of these funds are weak, so look for funds with modest costs and a good record.
- Commodities funds. Derivatives make commodities funds “horribly tax-inefficient,” Kinnel writes. He recommends pairing them with floating rate funds to protect against the dual risks of inflation and interest rates.
- Target-date funds. The least inefficient funds on Kinnel’s list, target date funds are designed for taxable funds, he writes. They prevent investors from chasing performance, and easily move into more conservative accounts as investors prepare for a fixed-income.
- Conservative allocation funds. Kinnel notes that by “conservative allocation funds” he means conservative funds with high-quality bonds. They’re not as fancy as some other funds, but they’re a “dependable group.”