How to Invest Extra Money After Maxing Your 401k and Roth IRA

You've done what most financial advice tells you to do: max out your 401k, max out your Roth IRA, build an emergency fund. You're ahead of 90% of people your age.

But now you have a new problem - a good problem. You have extra money left over, and you're not sure what to do with it.

The answer is usually a taxable brokerage account. But here's what most advice misses: the rules are different in taxable. What works great in your 401k might cost you thousands in unnecessary taxes over time.

Why Taxable Accounts Play by Different Rules

In your 401k and Roth IRA, taxes are either deferred or eliminated entirely. You can buy whatever you want, rebalance whenever you want, and the IRS doesn't care until withdrawal (or never, in a Roth's case).

Taxable accounts don't have that luxury.

Every dividend you receive? Taxed that year. Sell a fund that's gone up? Capital gains tax. Even if a fund you own sells something internally, you might owe taxes on gains you never actually realized.

This changes what you should own and where you should own it.

The Target Date Fund Tax Problem

Target date funds are fantastic in a 401k. They automatically rebalance, shifting from stocks to bonds as you age. Set it and forget it.

But in a taxable account, that automatic rebalancing creates a problem.

When a target date fund sells appreciated stocks to buy more bonds (which it does regularly as you age), the fund distributes those capital gains to shareholders. That's you. You receive a tax bill for gains you didn't choose to realize.

This is called "tax drag," and it compounds over decades. You're paying taxes on money that's still invested, which means less money compounding for you.

The math isn't catastrophic - maybe 0.5% per year depending on the fund and your tax bracket. But over 30 years of investing, that adds up to tens of thousands of dollars in unnecessary taxes.

What to Use Instead in a Taxable Account

The solution is simpler than the problem: own funds that don't rebalance internally.

Total stock market index funds are ideal for taxable accounts:

VTI (Vanguard Total Stock Market ETF) - Covers the entire US stock market, extremely tax-efficient, 0.03% expense ratio.

FXAIX (Fidelity 500 Index Fund) - S&P 500 exposure, no minimum investment, 0.015% expense ratio.

FSKAX (Fidelity Total Market Index Fund) - Fidelity's version of total market, same ultra-low cost.

These funds rarely distribute capital gains because they're not constantly rebalancing. They just hold stocks. When you want to rebalance or take profits, you decide when to sell - which means you control when you pay taxes.

This also enables tax-loss harvesting. If one fund drops, you can sell it at a loss to offset gains elsewhere, then buy a similar (but not identical) fund to maintain your market exposure. You can't do this with a target date fund that handles everything internally.

The Tax-Efficient Account Placement Strategy

Once you're investing across multiple account types, it matters where you hold each asset. The goal is to put tax-inefficient investments in tax-advantaged accounts, and tax-efficient investments in taxable accounts.

Here's a simple framework:

Taxable brokerage: US total stock market (VTI, FXAIX)

Most tax-efficient
Low dividend yields
You control when to realize gains

401k: Target date fund, bonds, or REITs

Least tax-efficient assets belong here
Rebalancing doesn't trigger taxes
High dividends don't matter - no annual tax

Roth IRA: International stocks, small-cap growth, or highest expected growth

Grows completely tax-free forever
Put your highest expected return assets here
No required minimum distributions

This isn't the only "right" way to structure things, but it's a reasonable starting point that most financial advisors would agree with.

Does International Belong in Taxable?

This is where reasonable people disagree.

The case for international in taxable: You can claim the foreign tax credit. When foreign governments withhold taxes on dividends, you can reclaim some of that on your US tax return. This credit is lost if you hold international funds in a Roth.

The case against: International funds typically have higher dividend yields than US funds, which creates more annual tax drag. The foreign tax credit might not fully offset this, especially at lower tax brackets.

Both approaches are defensible. If you're in a high tax bracket, the foreign tax credit argument is stronger. If you're in a lower bracket or don't want to deal with the complexity, putting international in your Roth is fine.

Don't let this decision paralyze you. The difference between the two approaches is measured in basis points, not percentage points.

At Your Savings Rate, Allocation Barely Matters

Here's something that might surprise you: if you're saving $50,000+ per year in your early 20s, the specific allocation matters far less than you think.

Let's do some rough math.

$50,000 per year invested from age 23 to 50 at a 7% real return = roughly $4.2 million.

Now let's say you picked a "suboptimal" allocation that returned 6.5% instead of 7%. Over the same period, you'd have roughly $3.8 million.

That's a $400,000 difference - which sounds like a lot until you realize it's about 10% of the total. And that assumes you consistently underperform by 0.5% annually for 27 years, which is unlikely with any reasonable diversified portfolio.

Meanwhile, the difference between saving $50,000 per year versus $40,000 per year is a much bigger deal:

$50k/year at 7% = $4.2 million
$40k/year at 7% = $3.4 million

That's $800,000 - twice the impact of the allocation "mistake."

Your savings rate is your superpower. Protect it. Don't let analysis paralysis about the perfect allocation slow down your actual contributions.

The Simple Answer

If you've read this far and just want someone to tell you what to do, here it is:

Taxable account: Buy VTI or FXAIX and hold it. Don't overthink this.
Keep your 401k target date fund if you already have one. It's fine there.
Roth IRA: Either more US stocks, or international (VXUS) if you want diversification.
Don't rebalance obsessively. Once a year is plenty. Twice a year is overkill.
Keep saving. The habit matters more than the specific fund.

You can spend hours optimizing your portfolio for an extra 0.1% return, or you can spend that time earning more money, advancing your career, or just enjoying your life. The latter is almost certainly a better use of your time.

The Compounding Advantage You Can't See Yet

At 23, it's hard to viscerally understand what you're building. The numbers in your accounts seem abstract.

But here's what's actually happening: every dollar you invest today has 40+ years to compound before traditional retirement age. At 7% real returns, that's roughly 15x growth.

That $50,000 you invest this year? It's not $50,000. It's $750,000 in future purchasing power.

This is why getting started - imperfectly, with whatever allocation you choose - beats waiting for the perfect strategy. The cost of waiting is measured in decades of lost compounding.

You're doing the hard part. You're saving aggressively in your 20s when everyone around you is spending on cars, vacations, and lifestyle inflation. That discipline will matter far more than whether you picked VTI versus FXAIX.

Keep going.

This article is for educational purposes only and should not be considered financial advice. Consult a qualified financial advisor for advice specific to your situation.