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Investment Silos

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Many people with investments have them spread over a number of accounts with multiple designations, which I call silos. The problem is that the silos sometimes become impenetrable walls. Here is how to handle this.

First let me explain what I mean by silos. This is where each investment account is considered a separate asset independent from the others. These could include a bunch of bank certificates of deposit (an exception since each is in a separate account but these are typically thought of as one silo); each stock brokerage or assets under management account in individual name; each IRA account; each 401(k) and/or employer retirement plan account; and investments in annuities or insurance policies. This is a simple configuration and indicates possibly five silos. However, many people also have real estate, closely held businesses or hedge funds, private equity and/or venture capital investments, and these are equally important, especially as people with these investments have portfolios with greater complexity.

I find that silos are each treated separately regarding income accumulation and distributions. As long as the investor is working and adding to his or her investments, distributions are not an issue, but the asset allocation should be. If the investor is retired and taking distributions, then this adds importance to how the portfolio is looked at and managed.

When an asset allocation configuration is decided upon, it should be based on the investor’s goals established along with an integration with future cash flow needs, life expectancy, inflation rates, stock market appreciation, and projected interest and dividends. For planning purposes, all investment silos should be aggregated, at least on a worksheet, and that is what should be used for the investment decisions.

When the distribution plan is worked out, the source of the distributions should be modeled, and this should preferably be done on a tax advantaged basis. This means that the total withdrawals do not need to come from each account but from the most appropriate account at that time for that investor. Let me give an example.

Let’s assume someone has $1,000,000 in stocks in their own name, $1,000,000 in stocks in an IRA account and $200,000 in money market funds. Also, they are retired and need to withdraw $60,000 a year. The stocks in each account earn $20,000 in dividends and the cash earns $2,000 interest. Further their overall plan is based on the stocks growing, on average of 5% or $50,000 per year, so their “earnings,” i.e. increase in the cash flow from and value of their investments, was $142,000 ($20K + $20K + $2K + $50K + $50K). Actually stocks earned much more last year and also for the average of the last ten years, so their target of 5% a year was exceeded. The question is, where do they take the withdrawals from? I suggest that $20,000 come from the stock account in their own name and the balance from the money market funds. The IRA should remain intact until they must start their required minimum distribution (RMD). The stocks should remain untouched since they would be taxed on the gains on any stocks they sold. The $40,000 additional withdrawals will be made from the money market account completely tax-free. A question that might be asked is that the money market account would be reduced eventually leaving them without “reserves.” That is not so, since they could always sell stocks and use that cash for their needs. If they have a certain amount set aside for a planned large purchase, then of course that amount shouldn’t be touched from the money market account, but the stock account is fully available.

If an investor feels the money market account is insufficient to cover the planned withdrawals and to protect against being forced to sell stocks for cash in a down stock market. In that case, they could plan out the next three year’s cash needs and sell high basis stocks now and keep those funds in cash, a money market account or laddered bank CDs. This will protect from the vagaries of the market in the near term, and thereafter stocks could strategically be sold to fulfill projected cash needs.

There is a point here. It is fine to keep your investments in multiple accounts and silos, but when evaluating the asset allocation, performance, cash flow and adherence to the plan and target to the goal, the silos should be ignored and the aggregate portfolio and results should be coordinated, and that is what should govern. Keep the silos but evaluate the totals.

If you have any tax, business, financial, leadership or management issues you want to discuss please do not hesitate to contact me at emendlowitz@withum.com.

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