When it comes to investing, most people are familiar with the concept of diversification: spreading your investments across different asset classes, sectors, or geographies to reduce risk and improve long-term performance. But there’s another form of diversification that can be just as impactful—especially when it comes to retirement planning—and that’s account diversification.

Account diversification means holding your investments across a mix of account types, such as traditional 401(k)s, IRAs, Roth IRAs, and taxable brokerage accounts. Just as diversifying your portfolio helps manage market volatility, diversifying your account types can provide greater flexibility, improve tax efficiency, and help you keep more of your hard-earned money in retirement.

Why Account Diversification Matters

Most investors focus heavily on saving into one or two types of accounts—often a workplace 401(k) or an IRA. These accounts are tax-deferred, meaning you get a tax break when you contribute, if eligible, but you’ll pay taxes later when you withdraw the money. That’s a great benefit but relying solely on tax-deferred accounts could lead to a higher-than-expected tax bill in retirement.

By adding Roth accounts and taxable accounts into the mix, you create options. And when it comes to financial planning, options are powerful.

The Three Tax Buckets

Think of your investments in three tax “buckets”:

1. Tax-deferred accounts (e.g., traditional 401(k)s and IRAs): You contribute pre-tax dollars and pay taxes when you withdraw in retirement. These accounts help reduce your taxable income today, but future withdrawals are taxed as ordinary income and you are forced to take withdrawals when you reach Required Minimum Distribution age.
2. Tax-free accounts (e.g., Roth IRAs and Roth 401(k)s): You contribute after-tax dollars, but your money grows tax-free, and qualified withdrawals in retirement are also tax-free. Roth accounts are especially valuable for managing future tax liabilities and minimizing required minimum distributions (RMDs).
3. Taxable accounts (e.g., brokerage accounts): You pay taxes annually on interest, dividends, and realized gains, but they also offer the most flexibility. There are no contribution limits, no penalties for accessing funds before retirement age, and favorable tax treatment on long-term capital gains.

The Benefits of Diversifying Account Types

• Tax flexibility in retirement: With multiple account types, you can strategically decide where to draw money each year based on your income needs and tax bracket. For example, you may withdraw from taxable accounts early in retirement (while avoiding early withdrawal penalties) to keep your income low, allowing your Roth and tax-deferred accounts to continue growing.
• Protection against tax policy changes: No one knows what tax laws will look like 10, 20, or 30 years from now. By diversifying your account types, you reduce the risk of being overly exposed to future tax increases.
• Medicare and Social Security planning: Your taxable income can affect how much you pay for Medicare premiums and how much your Social Security is taxed. A diversified account structure gives you more tools to manage your income and reduce potential surcharges.
• Legacy and estate planning advantages: Roth accounts can be powerful tools for passing wealth to heirs tax-free, while taxable accounts benefit from a step-up in basis at death. The more tools in your toolbox, the more options you have to shape your legacy.

Start Today

Account diversification doesn’t happen overnight. It’s something you build over time, just like your portfolio. Whether you’re still accumulating wealth or already enjoying retirement, it’s worth revisiting your account structure to ensure you’re not putting all your retirement eggs in one tax basket.

At Bloom Advisors, we help clients develop tax-aware strategies that maximize both growth and flexibility. If you’re unsure whether your account mix is working as hard as your portfolio, let’s talk.