Asset Location: Which Investments Belong in Taxable, Tax-Deferred, and Roth Accounts
Asset allocation decides what you own. Asset location decides where you hold it, and for high-bracket California investors the difference can compound for decades.
Most investors spend their planning energy on the mix of stocks and bonds. Fewer think about which account each investment sits in. Yet a household with a 401(k), a Roth IRA, and a taxable brokerage account is running three different tax regimes at once. Placing each investment where its tax profile does the least damage, a practice called asset location, can improve after-tax results without changing the level of risk.
Three kinds of accounts
Taxable brokerage accounts tax interest and non-qualified dividends every year at ordinary rates, qualified dividends and long-term gains at preferential rates, and gains only when realized. Tax-deferred accounts such as traditional 401(k)s and IRAs impose no tax on activity inside the account, but every dollar withdrawn is taxed as ordinary income. Roth accounts impose no tax inside the account and no tax on qualified withdrawals. For 2026, the 401(k) deferral limit is $24,500 and the IRA limit is $7,500, which caps how much can flow into the sheltered buckets each year and makes the placement decision more consequential.
The general principle
The conventional guidance from Fidelity is to hold tax-inefficient investments in tax-deferred or tax-exempt accounts and tax-efficient investments in taxable accounts. Bonds and bond funds, high-yield bonds, and actively managed stock funds with high turnover are candidates for sheltering because they throw off income or short-term gains taxed at ordinary rates. Individual stocks, broad equity index funds and ETFs, and tax-managed funds tend to do well in taxable accounts because most of their return arrives as unrealized appreciation and qualified dividends.
Schwab's discussion of asset location adds real estate investment trusts and short-term holdings to the list of assets suited to sheltered accounts, and municipal bonds and long-term holdings to the taxable side. Schwab also observes that a large share of the potential benefit comes from two moves: using municipal bonds rather than taxable bonds in a taxable account, and holding passive funds in taxable accounts while keeping active funds in tax-advantaged ones.
Why this matters more in California
The state taxes capital gains and dividends as ordinary income at rates up to 13.3%, with no preferential rate for long-term gains. Federal long-term gains for 2026 reach 20% above $545,500 of taxable income for single filers and $613,700 for joint filers, and the 3.8% net investment income tax applies above $200,000 or $250,000 of modified AGI. A high earner in Palo Alto can face a combined marginal rate above 35% on gains and well above 50% on taxable bond interest. Every dollar of that income moved from a taxable account into a sheltered one is a dollar not taxed at those rates this year.
Roth accounts and expected return
A refinement involves the Roth. Because Roth growth is never taxed, some investors place the assets with the highest expected long-term return there, typically equities, so that the largest eventual gains escape tax entirely, while holding bonds in traditional accounts where withdrawals will be taxed anyway. The trade-off is that concentrating equities in the Roth also concentrates volatility in the account with the least room to recover from a loss through new contributions, and it can distort the overall allocation if not tracked across all accounts together.
Limitations and costs
Asset location is not a substitute for allocation. Schwab cautions against pursuing tax efficiency at the expense of your risk profile, and Fidelity notes that the strategy generally takes time to work, so it can take years for the benefits to outweigh the costs. Several practical constraints apply.
Moving existing holdings out of a taxable account means selling them, which can trigger the very gains the strategy is meant to defer; changes are often made gradually or through new contributions.
Rebalancing is easier when each account holds a slice of everything; a fully located portfolio may require moving money between accounts that cannot exchange assets directly.
The benefit depends on tax rates that may change, both by law and because your own bracket in retirement may differ from today's.
Withdrawal planning is affected, since a bond-heavy 401(k) and a stock-heavy
Roth will have very different balances thirty years from now.
Employer stock concentrated in a taxable account, common in the Bay Area, complicates the picture further, since diversification usually takes priority over location.
This article is educational only and is not investment, tax, or legal advice. The right placement depends on your accounts, tax situation, and time horizon, and readers should consult a qualified professional before restructuring a portfolio.
Important Disclosures
Important Disclosures: Propulsion Capital Management is an investment adviser registered with the State of California Department of Financial Protection and Innovation. Registration does not imply a certain level of skill or training. This article is provided for general informational and educational purposes only and does not constitute investment, tax, legal, or accounting advice, nor an offer or solicitation to buy or sell any security or to adopt any particular investment strategy. The information is believed to be accurate as of the date of publication but is subject to change without notice; tax laws and regulations change frequently and their application depends on individual facts and circumstances. Nothing herein should be relied upon as a substitute for personalized advice from a qualified professional. Investing involves risk, including the possible loss of principal, and past performance is no guarantee of future results. Diversification does not ensure a profit or protect against loss. Any examples are hypothetical, are for illustrative purposes only, and do not reflect the experience of any client. Links to third-party websites are provided for convenience; Propulsion Capital Management does not endorse, and is not responsible for, the content of third-party sites. Propulsion Capital Management does not provide tax or legal advice; please consult your tax adviser or attorney regarding your specific situation.
