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A Reduced-Form Approach to Retirement Planning under Constraints

By Jennifer Huang

Abstract

We analyze the intertemporal portfolio problem of an investor who has access to both taxable and tax-deferred (retirement) accounts and is subject to borrowing and short-selling constraints. We provide conditions under which the commonly used location rule of preferring higher-taxed assets in the tax-deferred account might not be optimal. We also derive analytical solutions for the optimal portfolio allocation by transforming the two-account problem into a mixture of two single-account problems (one with only a taxable account and one with only a tax-deferred account). For financial planning purposes, we derive convenient “rules of thumb ” to approximate our theoretical results and assess the performance of the Since their introduction, participant-directed tax-deferred accounts (IRA, Roth-IRA, 401(k) and 403(b)) 1 have grown considerably in popularity and represent nowadays the crucial tool for investors retirement planning. Data from the 1998 Survey of Consumer Finance

Year: 2003
OAI identifier: oai:CiteSeerX.psu:10.1.1.195.8810
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