# tax on TDA

LOS 70f, Schweser Book 3, P.328 Tax Advantaged Accounts and Asset Allocations “If the tax rate is 30%, the investor actually has 420,000 [600,000 x (1-0.3)] invested in equity on an after-tax basis.” Does it mean the tax is applied on the investment, not the return?

All they are trying to say there is that the tradition 60% Equity /40% Bond is ‘not really’ 60/40. As in their example from the 1m, 400K goes to TEA (so zero taxes here) and 600K goes to TDA (which is eventually going to be taxed at 30%). So the real asset allocation split on a pre-tax basis is 600K*(1 - 0.30) = 420K in equity and 400K (1 - 0.0) = 400K in bonds, totaling 820K. So the real split is 420K/820K = 51.22% in equities and 400K/820K = 48.78% in bonds. So pre-tax allocation split is 51.2/48.8 and not 60/40 as viewed traditionally.

Thanks. But my question really is why 600k*(1-30%), the equation means tax is applied on the investment and the gain. Or why EVIF(TDA) = (1+r)^n*(1-T)? My concept is that tax should only be applied on the gain, unless it is wealth based tax. When the tax is deferred, the EVIF formula should be similar to one of deferred capital gain tax, which add back tax at the end of the equation. Is my understanding wrong?

is it you spend (invest 600K on debt) but actually since you get back 30% by virtue of interest savings on the debt - it is actually equivalent to “invest 600*.7” instead…

Looking at it this way - if you put in 600k at the rate of r% per annum, after 1 year you are going to have 600k(1+r) before taxes. After taxes it will be 600k(1+r)(1-T), which can be also viewed as 600k(1-t)(1+r), i.e. this is as good as saying that you are actually putting in only 420k into the equity investment and not 600k.

Rainbow nailed it.

Nevermind Rainbow has it right.

TDA investments are supposed to be done by pretax funds only, no? For after-tax investments we use TEA (tax exempt) Please correct me if I am wrong?

You’ve got it right.