When selecting funds, it’s crucial to consider their after-tax returns, as these can vary significantly from their pre-tax figures.
The Vanguard Wellesley Income Fund Investor Shares (ticker: VWINX), known for its conservative investment strategy with a mix of stocks and bonds, demonstrates this point clearly.
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It currently pays a 3.8% 30-day SEC yield and has delivered a 5% annualized total return over the past decade, as of June 30. However, its quarterly returns adjust to 3.3% after taxes.
In such scenarios, housing certain funds like VWINX within a tax-advantaged account like a Roth IRA can ensure they operate at full efficiency.
“Generally, investors should allocate funds that are less tax-efficient in a Roth IRA,” says Lauren Wybar, senior wealth advisor at Vanguard. “For example, taxable bonds and real estate investment trusts, or REITs, make regular income payments, and actively managed stock funds are more likely to distribute taxable capital gains.”
This specialized retirement account enables tax-free growth from any income, dividends or capital gains realized within. Additionally, if you’re at least 59 1/2 years old with a Roth IRA that’s been open for at least five years, withdrawals are tax-free as well.
“Roth IRAs are an attractive financial savings vehicle because investors can contribute to them regardless of age and take advantage of tax-free income in retirement, with no required minimum distribution, unlike a traditional IRA, which requires distributions at age 73,” says Tiana Patillo, a financial advisor manager at Vanguard.
For those considering opening a Roth IRA, it’s important to note the eligibility requirements. The modified adjusted gross income must be less than $146,000 for single filers or $230,000 for joint filers to contribute the full amount. For 2024, the contribution limit is $7,000, with an additional $1,000 catch-up contribution for those 50 or older.
Here are seven of the best funds to hold in a Roth IRA, according to experts:
| Fund | Expense Ratio |
| Vanguard 500 Index Fund Admiral Shares (VFIAX) | 0.04% |
| Fidelity Contrafund (FCNTX) | 0.39% |
| Cohen & Steers Quality Income Realty Fund (RQI) | 2.79% |
| Avantis All Equity Markets Value ETF (AVGV) | 0.26% |
| Grayscale Bitcoin Mini Trust (BTC) | 0.15% |
| Amplify CWP Enhanced Dividend Income ETF (DIVO) | 0.56% |
| Amplify CWP Growth & Income ETF (QDVO) | 0.55% |
Vanguard 500 Index Fund Admiral Shares (VFIAX)
“Roth IRAs are especially beneficial for younger investors because there is greater saving potential due to that tax-free compounding,” Patillo says. Even a fairly tax-efficient fund like VFIAX can benefit from being held in a Roth IRA. After taxes on distributions and sale of shares, the 12.8% 10-year annualized return of VFIAX would have been reduced to 10.6%, resulting in lost compounding potential.
In a Roth IRA, investors who own VFIAX can take advantage of the S&P 500’s hard-to-beat track record at a low expense ratio of 0.04%. However, there is a $3,000 minimum investment requirement. To circumvent this, Vanguard also offers VFIAX as an exchange-traded fund (ETF), called the Vanguard S&P 500 ETF (VOO). VOO trades for around $515 per share and charges a 0.03% expense ratio.
Fidelity Contrafund (FCNTX)
“If you are younger and retirement is still years away, consider allocating a good portion toward funds that focus on growth,” says Jim Penna, senior manager of retirement services at VectorVest Inc. “Historically, these investments have potential for higher growth over time that you will pay no taxes on when held in a Roth IRA.” A great example is FCNTX, one of Fidelity’s longest-running funds.
FCNTX has been around since 1967. Originally, it utilized a contrarian investing style. But under the direction of William Danoff, the fund’s manager since 1990, FCNTX adopted a large-cap growth strategy. Over the last 10 years, Danoff’s active management has paid off, with shares of FCNTX compounding at an annualized 14.9% versus 13% for the S&P 500 index. FCNTX charges a 0.39% expense ratio.
Cohen & Steers Quality Income Realty Fund (RQI)
“To take advantage of the tax benefits, it is generally better to hold investments in your Roth IRA that would otherwise generate taxable income,” Penna says. “For example, stocks that pay dividends or generate capital gains, REITs — known for favorable dividend payouts — and high-yield bond funds fit into this category.” If you are going to invest in these assets, a Roth IRA can greatly lower your tax burden.
For real estate exposure, consider an unorthodox pick like RQI. This close-ended fund (CEF) is able to employ leverage, currently set at 27.4%, to boost its returns and income potential at the cost of higher volatility and interest expenses. Right now, RQI pays a high 5.9% distribution rate and trades at a minor 3% discount to its net asset value (NAV). The CEF charges a 2.79% expense ratio.
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Avantis All Equity Markets Value ETF (AVGV)
For a shot at outperforming the market with your Roth IRA, investors can target funds that emphasize small-cap stocks and value stocks. “These companies have a high discount rate embedded in their market price, and a high discount rate generally drives higher expected returns for investors,” says Ted Randall, senior portfolio manager at Avantis Investors. The all-in-one ETF to use for this role is AVGV.
AVGV is structured as an “ETF of ETFs,” also known as a “fund of funds.” Currently, it holds six other Avantis ETFs covering U.S. large-cap value, international large-cap value, U.S. small-cap value, emerging market value, international small-cap value, and U.S. mid-cap value stocks. The ETF charges a reasonable 0.26% expense ratio that is inclusive of all underlying fund fees and is rebalanced periodically.
Grayscale Bitcoin Mini Trust (BTC)
“Acting as a tax-free piggy bank, Americans can use Roth IRAs to invest in high-growth assets while maximizing their tax savings in the future,” says Chris Kline, chief operating officer and co-founder of Bitcoin IRA. “It’s one of the reasons Bitcoin — whether via ETFs or direct custody in self-directed IRAs — is becoming a popular choice to diversify within retirement accounts.
One of the cheapest Bitcoin ETFs available right now is BTC, which charges a 0.15% sponsor fee. This ETF was spun-off from the larger and older Grayscale Bitcoin Trust (GBTC), which charged a much higher 1.5% expense ratio. In response to investor demand for a lower-priced Bitcoin ETF suited for buy-and-hold strategies, shares of BTC were distributed to GBTC investors on a 1-for-1 pro rata basis.
Amplify CWP Enhanced Dividend Income ETF (DIVO)
“DIVO offers investors an attractive complement or alternative to a traditional core equity or equity income allocation by focusing on high-quality, large-cap stocks with growing earnings and cash flow,” says Christian Magoon, CEO at Amplify ETFs. “DIVO’s rules-based active strategy also includes tactical covered call writing, which increases when market volatility elevates, adding to its income potential.”
This ETF currently ranks in the top of Morningstar’s “derivative income” fund peer category, having earned a five-star rating for superior risk-adjusted returns. Investors can currently expect a 4.8% annualized distribution yield, which is paid on a monthly basis. Unlike most covered call ETFs, DIVO sells calls on individual holdings, which caps upside less and results in better total returns.
Amplify CWP Growth & Income ETF (QDVO)
The success of DIVO led Amplify to release an updated variant of the same strategy, with a focus on large-cap growth stocks. “By focusing on growth-oriented companies from the Russell 1000 Growth index, we’re able to offer investors capital appreciation with an added layer of income generation,” Magoon says. This contrasts with DIVO’s dividend growth and quality-focused portfolio.
QDVO’s top holdings currently include all of the “Magnificent Seven” stocks — Nvidia Corp. (NVDA), Microsoft Corp. (MSFT), Apple Inc. (AAPL), Amazon.com Inc. (AMZN), Alphabet Inc. (GOOG), Meta Platforms Inc. (META) and Tesla Inc. (TSLA). As with DIVO, QDVO will tactically sell covered calls on individual holdings to generate monthly income while capping some upside price return.
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7 Best Funds to Hold in a Roth IRA originally appeared on usnews.com
Update 09/17/24: This story was previously published at an earlier date and has been updated with new information.
