How To Avoid The Tax Surprise On Your Mutual Fund Investments

Capital gains tax rates have a history of changing cyclically, with the last change being an increase in the maximum long-term rate for high-income taxpayers in 2013. Under the American Taxpayer Relief Act of 2012, the top tax rate on capital gains has been permanently increased to 20% for single and married filers in the 39.6% tax bracket.

Furthermore, the new IRC Section 1411 Medicare surtax imposes a 3.8% tax on certain investment income. This new Medicare tax will generally apply to investment income that is subject to the income tax, including capital gains. This new tax applies to single filers with incomes above $200,000, and married taxpayers with incomes over $250,000. The net effect of both of these tax increases is a new 23.8% tax rate for higher earners – the highest rate for long-term capital gains since 1997.

Mutual funds are required by law to distribute net income annually in the form of dividends and net realized capital gains from the fund’s assets, reducing net asset value and price accordingly. Distributions are included in a shareholder’s income tax return and subject to taxation when they are made, regardless of whether they are received or reinvested. The percentage of mutual funds making capital gains distributions has increased significantly over the last few years. Morningstar reports that two-thirds of equity mutual funds distributed capital gains in 2015 – more than double the percentage of funds with capital gains in 2011.

Unfortunately, many equity funds are not managed with the tax liabilities of investors in mind. Thanks to the increasing popularity of tax-deferred accounts – including 401(k)s and IRAs – many investment managers no longer consider minimizing taxes when making investment decisions. As a result, they have shortened holding periods and increased trading frequency, generating more capital gains distributions.

After years of equity market gains, capital gains are piling up for many mutual funds, generating unanticipated tax bills for investors. They should understand the potential impact of these taxes on their portfolios, and consider their options for mitigating their tax bill.

Minimizing your capital gains tax burden requires a comprehensive financial analysis by investment professionals. At Werba Rubin, we’re committed to helping you achieve your goals by making the most of your financial resources, and that includes reducing the impact of capital gains taxes.

All investments involve risk, including the loss of principal and cannot be guaranteed against loss by a bank, custodian, or any other financial institution.

The information herein is general in nature and should not be considered insurance, legal or tax advice.  Please consult with an insurance legal or tax professional for additional information on specific situations.    

Advisor services through Werba Rubin Advisory Services, LLC. Securities through Loring Ward Securities Inc., Member FINRA/SIPC# (04/10) © 2016Werba Rubin Advisory Services, LLC (WR 16-022)

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