End-of-year mutual fund distributions add tax pain to losses

Adding insult to injury, some of the mutual funds in which you’ve seen 40 percent declines this year will be sending you a taxable distribution before the year is out.

This is most common for high-turnover, actively managed funds. But this year some funds have sold stocks they have owned for years. They might have chosen to take profits or were forced to sell when people redeemed their shares. If you hold your funds in a tax-sheltered account like an IRA or 401(k) plan you won’t be affected. And index funds or tax-managed funds held outside a retirement account mostly won’t be affected.

But some funds will pay out huge. Vanguard Precious Metals and Mining (VGPMX), for instance, has lost 64 percent of its value so far this year, but will send out long-term capital gains distributions equal to about 15 percent of its share price. T. Rowe Price Spectrum Growth (PRSGX), which is down 43 percent year-to-date, is expected to pay out 9 percent of the fund in taxable distributions.

Long-term capital gains are taxed at a maximum of 15 percent. But some funds may have short-term capital gains, which are taxed at your regular income tax bracket.

Here are the links to information on the estimated capital gains distributions for four of the biggest fund companies: American Funds, Fidelity, T.Rowe Price, and Vanguard. Note that the capital gains are estimates and may still change.

What to do?
It’s a good reminder to keep funds that aren’t tax-friendly in your IRA. But if you’re facing taxes from a distribution, you can try to offset the capital gains with other capital losses. If you were planning on selling a fund anyway, it might make sense to do so before the distribution, which you can find on the fund company’s Web site. Also, look for the “declaration” or “record” date. That’s when the fund company determines who will receive a distribution.

But if you sell a losing fund and choose to buy a similar fund within 30 days, you may run afoul of the “wash sale” rule. For more information on harvesting tax loses in a mutual fund and avoiding the “wash sale” rule, see this article from the Schwab Center for Financial Research. 

If you are thinking of buying mutual fund shares in a taxable account, make sure you wait until after it makes a payout or you’ll be liable for taxes on the distribution. Plus the fund’s net asset value, or NAV, is reduced when the distribution is paid out. So if your fund has a NAV of $10 and pays a $2 distribution, your fund will be worth $8 a share after the distribution is made. If you buy before the distribution is made, you’ll be stuck paying the taxes, without having participated in the gains.—Chris Fichera