First time I heard about this is today. I tried to read posts about it but I am still confused or I may be freaking out. Not sure yet. So apparently we shouldn’t have TDF in our brokerage account due to taxes. So even if you are holding long term you will be taxed? What if you withdraw bellow 48k? I am planing to retire abroad and my plan is to get money out of my brokerage account. So if I need to pay taxes that will change my Fire number. Help me understand please!
You are taxed on distributed capital gains.
When one particular segment (like large cap) is doing really well, fund managers have to sell some of what’s doing well to keep the target weightings right. If they don’t, the really strong performers become overweighted, since they are now worth more (and now comprise a higher percentage of the total).
Those are distributed capital gains, which are taxable, even though you yourself didn’t sell anything.
Regarding the 0% long term capital gains tax bracket, that stacks on top of your income for purposes of determining your bracket, so to be completely in the 0% LTCG bracket, your taxable income plus your capital gains have to be < $48K.
So for someone who doesn’t understand much about investing. And want to put extra 500k in a TDF in their brokerage. How much of an impact will it have? (I have about 50k now and I checked 1099 form for this year and my total capital gain distribution is $18 ) I am ok with a taxable gain of $180. But is it linear? I am happy that I am learning about this today. Thank you for explaining
Really depends on the year and the market.
If all sectors do about the same, then no need to sell anything, because the percentages stay the same.
The rude awakening is when one sector - like US large cap - massively outperforms everything, like international. This was the case a couple years ago, and was a painful lesson for many.
It was a bit of an anomaly, but at the end of 2021 Vanguard had massive capital gains distributions in their TDFs. Theoretically this would be a risk that could repeat for any fund of funds type investments like a TDF in a taxable brokerage:
https://www.whitecoatinvestor.com/vanguard-target-retirement-distribution-disaster/
Yeah, and they’re getting sued over it (and I believe some SEC fines) because they prioritized institutional investors and screwed retail customers.
It PROBABLY won’t happen again, with Vanguard’s funds, but considering someone (or more likely multiple people at high levels) said “this is ok” and ran with it, I personally vote for a limited amount of trust on the topic, with them and with others. Keep TDFs in tax-advantaged accounts where they belong.
The tax thing with TDFs in taxable accounts is about the annual distributions they kick out, not when you sell. Even if you hold for decades without touching it, you'll get hit with taxes every year from the dividends and any rebalancing they do internally
If you're planning to withdraw under the standard deduction amount that could help minimize the tax hit but you're still gonna owe on those yearly distributions regardless of your withdrawal strategy
It's not even about annual distribution.
TDF are managed mostly for retirement funds. They are accustomed to being able to liquidate stock provisions in market downturn without tax consequences. TDF usually wind up being higher transaction block traded funds but specifically when the market downturns and they rapidly change strategy you will sometimes then be forced to liquidate your taxable gains to pay for said capital gains.
Depending how much cash it is there are much better funds.
https://www.sec.gov/newsroom/press-releases/2025-21
Exactly this. Someone could, theoretically, make a TDF designed for a taxable account that doesn't have these issues. But it hasn't been worth anyone's while to do so, given most are held in retirement accounts.
Hum so In already a bad year I can be forced to pay taxes too since I don’t have control over what sells in my account! No bueno.
Is there data on the highest percentage sold? If what sold is bellow 48k and I withdraw will I still have to pay taxes on it ? In other words, If all my income comes from This account and what the account manager sold that year is bellow 48k and I withdraw 48k. Are we good ? lol Bare with me
Sorry man, I don't follow your secondary question...
You should have a cost basis on the account and shares +purchase lots you can calculate taxes with
This shows how confused I am.
If I withdraw 48k from my TDF brokerage account. And I have 0 other income. Will I pay a separate tax just for the capital gain from distribution? Or you only pay taxes if you make or withdraw higher to what’s taxable?
Blackrock have a number of TDFs in a ETF wrapper (iShares® LifePath® Target Date 2070 ETF), versus a mutual fund. Due to the ETF wrapper structure (at least in the US), they generally do not distribute capital gains, and are tax efficient in a taxable brokerage account.
https://www.ishares.com/us/resources/tools/target-date-fund-finder#/choosing-life-path
Blackrock also has a "Core Allocation" or multi asset fund in an ETF, similar to Vanguard LifeStrategy mutual funds
https://www.ishares.com/us/products/239729/ishares-aggressive-allocation-etf
AOA - 80% stocks, 20% bonds - similar to VASGX
AOR - 60% stocks, 40% bonds - similar to VSMGX
These funds automatically rebalance to maintain their stock / bond allocations. They do not have a glide path to bonds, like Target date funds.
Its not the end of the world so doesnt deserve panic but any actively managed fund where assets are sold to buy other assets will generate capital gains taxes if it is in a taxable brokerage. As TDFs often rebalance, theyd generate a modest amount of annual capital gains tax. This is normal and nothing to freak out over.
But, in general, better to invest in tax advantaged accounts....because they are tax advantaged.
I need a brokerage account since I am planing to retire early. I didn’t know what distribution to use to a TDF seemed to be the safest. But here we are.
You still need tax advantaged accounts unless you plan to die early too.
But if your plan is to cash it out early then you are going to pay taxes on it regardless. This is cap gains not income tax so the level of your income during the accumulation phase doesnt impact it.
Paying a bit of taxes throughout will reduce the toral gain at the time you cash out so its not like you get double taxed.
Is it ideal? No...still best to avoid taxes while investing to maximize compounded gains. But it really is not going to have that much of an impact.
Thank you for clarification. Yes I have a 401k and I contribute 11% with 1% increase every year. I am considering using my company financial advisor. Just so I can clarify the contributions in my brokerage account. I like the 80 in us and 20 in international that my TDF is giving me and the slow adjustment to bonds. But well. If I need to learn. I need to learn and reduce the taxation.
Oh that would be the other issue. Bonds will issue dividends that will count as income and thus be taxed along with your income at income tax rates. Bonds in a taxable brokerage do cause a decent amount of tax drag. Again...not the end of the world. Tou are just trading efficency for having money available for early retirement.
Oh lord! Ok thank you good to know.
that is a very common misconception that people have. if you retire early, there are a few ways to access that money, it just takes some planning effort. This means that you should be prioritizing your tax advantaged accounts, especially if you are wanting to retire early.
So I have five figures in VFIFX in a brokerage. Does it make sense so sell and rebuy into the equivalent mix of ETF indexes?
Also: am I actually getting the distributions / dividends? Or am I being taxed for something that only exists on paper? Thanks.
Holding any investments that contain distributions that will be taxed as ordinary income are tax inefficient. TDFs hold a bond allocation that grows as you get closer to retirement, so you'll be increasing income taxed at ordinary rates as you approach your highest working years.