In this week’s video, Casey discusses what to expect from capital gains distributions in 2022.
Investors hate two things: losing money and paying taxes. And some mutual fund investors might be facing both this year.
Casey speaks to the importance of owning tax inefficient investments in tax-deferred accounts and how it really does matter how you get your market exposure.
Check it out!
Can I Owe Capital Gains Tax if I Lose Money? – Full Transcript
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Casey Mullooly: In episode 316, we talk about unwanted gains in your investment account. What? Welcome back to the Mullooly Asset Show. I’m your host, Casey Mullooly back with you for episode 316. So usually you want gains in your investment account. It’s the whole point of doing this. Well, some mutual fund investors aren’t going to be happy this year if they own those funds in taxable accounts.
So just to recap, if you own a mutual fund in something like a retirement account, a 401(k), a 457 or even an IRA, those are tax deferred accounts, so this does not apply to you. But if you own mutual funds in a taxable account, and the mutual fund pays a capital gains distribution for the year, that is a taxable event to you. So Morningstar put out an article that showed how some big fund companies like Fidelity, T. Rowe Price, TIAA, are projecting and estimating that they’re going to pay pretty substantial capital gains distributions to their shareholders in 2022.
I saw some were 7, 8, 9 high single digits, even low double digits, I even saw 15% in there. We’ll link to the article in the show notes so you can go and check out if you’re on any of those funds, what those funds are estimating for the payouts.
But people might be a little confused because the market has broadly been down in 2022, and talking about investment gains in a year in 2022 just seems weird, so how can these mutual funds have capital gains in a year where the fund itself is down?
Let me explain. So while the fund might be down during the calendar year of 2022, when people sell those mutual funds, the fund itself has to sell underlying assets that they own, and if they’ve owned them through 2020, 2021, they probably have substantial gains in the underlying assets.
So they have to sell those assets to redeem the shares to the shareholders who are selling, but those assets are sold at a gain and then that gain gets passed through to shareholders, and we end up with capital gains distributions in a year where the market is down. So even though you might not have made money in the fund in 2022, you still might owe some tax on it.
So there are two things that investors truly hate, losing money and paying tax, so we like to do things a little differently here, and focus on what’s called asset location. Basically, if you’re going to own tax inefficient things like mutual funds, you want to do it in those tax deferred accounts like I spoke about in the beginning, that is really important.
And while tax considerations aren’t the primary driver of investment decisions, they’re a secondary driver, and we want to be sensitive to people’s tax situations as much as we can when making those investment decisions.
So we often think about, there’s a ton of mutual funds and there’s a ton of ETFs out there. We like to use ETFs, and one of the reasons why we do is because they’re more tax efficient and you can get similar type of exposure between mutual funds and ETFs. You can get pretty much the same exposure in a lot of instances, and one is tax efficient while the other is not.
So something to think about, and let’s definitely circle back at the end of the year because like I said, these are just estimates right now. So you’ll want to circle back, and if you do get a capital gains distribution, you’re going to get what’s called a Form 1099-Div, so you’re going to want to have that for your tax preparer or to do it in your own tax reporting come the beginning of 2023. So that is the message for episode 319 of the Mullooly Assets Show. Thanks as always for tuning in, and we’ll be back with you next week.