Copy
Capital Gains – You May Have To Pay Taxes on a Loss!
BOURBON FINANCIAL MANAGEMENT
Like Capital Gains – You May Have To Pay Taxes on a Loss - Even When You Do Not Sell! on Facebook share on Twitter
 
Patrick Bourbon
BEST OF BFM

 
FINANCIAL TIPS






 
BFM Videos


 
WE ARE ALL PREDICTABLY IRRATIONAL!
 
See examples of cognitive illusions, and learn why humans make predictably irrational decisions


 


For example, did you know that your vision can literally “trick” you whenever it can? That human attention is limited and that we can’t analyze all the information we receive? Let's watch this video:
 
 
 

The butchers' and dietitians' story: discover the difference between brokers and fiduciaries

 
 

BFM is a fiduciary (like a dietitian)

 
 

Behavioral Finance: overconfidence and the role of psychology
(DR. SHILLER - 2013 NOBEL PRIZE IN ECONOMICS)

 
 

INVESTMENT 101: BE PREPARED


 

WHY WE ARE FEE-ONLY FINANCIAL PLANNERS
 
 
 

WHY WE OFFER COMPREHENSIVE FINANCIAL PLANNING
 





Best of BFM Newsletters

Good negative returns funds (01/16)

Year-end financial checklist (10/15)

Ready for a salary raise in 2016 (09/15)

Top 10 funds (08/15)

Charts of the markets (06/15)

Charts of the markets (05/15)

Ready for higher interest rates (03/15)

Inflation (10/14)

Emerging Markets (09/14)

Charts of the Markets (06/14)

Update on U.S. Real Estate (11/13)

How to Reduce Taxes (02/13)

Let's Diversify (10/12)

Let's Go Global (7/12)


Real Estate Prices (3/12)

Pick Better Funds (10/11)

Put Things in Perspective (9/11)

Markets Trends (3/11)

Thoughts about Japan Disaster (3/11)

Tax Update (2/11)

Wall Street Top Stocks (2/11)

Investor’s Performance (11/10)

Reduce your taxes (11/10)

Be Positive (10/10)



BFM Videos (1/14)

Best of BFM Newsletters (1/12)

Be Aware of Emotions (11/11)

Human Brain and Decision Making (8/11)

Behavioral Finance (7/11)

BFM Video and Cultural Differences (6/11)

Investment Decision Making (5/11)

Rationality and Decision Making (1/11)

Humans Can't Analyze All the Information (9/10)

Videos on Behavioral Economics (9/10)

Train Your Brain to Win (8/10)

Investors Can't Think for Themselves (6/10)

 
Capital Gains - You May Have to Pay Taxes on a Loss!


You meet with your accountant and he informs you that you need to pay capital gains taxes even though the mutual fund you bought posted negative returns. You have not sold any funds or made any portfolio changes. How does this happen?

Why do some people need to pay capital gains taxes if they lost money and did not trade?


Executive Summary

When you own a mutual fund in your brokerage account, you may have to pay taxes even though the value of your fund went down, even if you did not sell the fund or realized any gains. It is important to know which funds may generate lots of taxes and to optimize your asset location (brokerage, 401 (k), IRA... accounts) of each fund you own.


Details
 
If you check www.morningstar.com, you will see the difference in performance before and after-tax. In the last 12-months, taxes may have decreased the performance of PIMCO Long-Term U.S. Government bond fund by more than 21% in a regular taxable brokerage account!

The fund has suffered some withdrawals / outflows (fund redemption by shareholders) in the last two years which created this large difference. The outflows required the fund manager to sell securities (stocks, bonds...) triggering the capital gains.

Although the fund performed well this last twelve months with a return of over 7%, its after tax return was a loss of over 13%. This occurred as many investors in the fund chose to withdraw money from the fund. As a result, the fund manager was forced to sell many securities to cover the redemption. The process triggered capital gains tax.
 
Imagine you invested $100 in the fund one year ago, you would have lost nearly $14 as a result of taxes on assets that were in the fund before you had even invested in the fund.  

 



 
Taxes can have significant effects on stocks as well. An example would be the well-known Acorn fund from Chicago, which was one of the best funds between 1970 and 2010. In the last 15 years, the fund has outperformed the S&P 500 or its category (top 13%) by more than 2% per year. In the last 12-months, taxes may have decreased the performance of Acorn by more than 9% in a regular taxable brokerage account even though the fund performance was negative!

If you bought $100 of Acorn one year ago, you may have about $94 today. In addition, you had to pay $9 of capital gains tax (IRS form 1099-DIV).

 



Mutual funds pass through capital gains that are only recognized when a holding or security is sold, so the fund manager can postpone capital gains. That creates a liability for unrealized gains that a new buyer/shareholder picks up when he buys into the fund. A mutual fund with large outflows will be forced to recognize these gains. Acorn's shareholders experienced this in the last few years. 

Even without selling shares of a fund, investors can incur capital gains taxes triggered by the sale of individual securities by the fund manager.

 
Key Takeaways

Investors buy mutual funds because it is simple but we recommend looking into finer details, specifically tax ramifications of any financial security before making a decision to invest. Some funds have a high turnover and may generate high taxes. Even though stock performance has been weak in the past twelve months, many mutual funds still have highly appreciated securities in their portfolios following the stocks' seven-plus-year rally (U.S. stocks are up 250% since March 2009); those gains haven't been taxed yet. 

If there is a change in a fund manager, it may prompt the sale of those highly appreciated securities by the new fund manager. Those gains must then be distributed to shareholders and are taxable.
 
Note that investors in funds or ETF owned in non-U.S. bank/brokerage accounts may also have high U.S. taxes on a fund that went down in value and that was not even sold due to PFIC rules!
 
 
Taxes are one of the few guarantees in life.

Tax strategies can minimize the amount you may need to pay.

 

Income and capital gain distributions from holdings inside of an IRA, 401(k), 403(b), 529, or HSA accounts don't have any tax consequences unless you withdraw from them for non-qualified distributions. Even funds with low-turnover strategies and historically low capital gains distribution may have investment process changes that lead to higher capital gains distributions.

There are differences between short- and long-term capital gains. The former are worse than the latter because they're taxed at your ordinary income tax rate which may be higher. You can receive information about this topic from your fund manager in November and December. Some investors prefer to sell a fund before it makes large distributions. It is also good to know that if you're reinvesting the distributions from your fund, you can adjust your cost basis upward to account for them (and pay less taxes later).
 

SUMMARY: ASSET LOCATION OPTIMIZATION

When possible, some investors put fixed income, commodity, real estate (REITs), high dividend paying stock, money market funds (which generates ordinary income or short-term capital gains), and stock funds with high turnover in tax-deferred accounts like 401(k), 403(b), IRA, , HSA, VA, VUL, 529…, and put equity funds (low turnover or international) in taxable accounts.

 
If you have any questions about how this pertains to your investments or your portfolio, don't hesitate to email or call us!


 


 
  • BFM helps you make better, more informed financial decisions by giving straightforward and conflict-free diversified strategies to maximize asset growth and reduce downside risk.
 
  • BFM makes sure that you have enough assets for your entire life so that you can enjoy a comfortable retirement with a secured income.
 
  • BFM gives you a financial plan with personalized guidance to keep your portfolios on track with your goals. We neither sell any products nor get any incentives from any specific services. You keep control of your financial accounts.
 
  • BFM will continue to monitor and adjust your financial plan as your needs and circumstances change.
 
  • BFM offers you a positive investment experience by providing comprehensive and focused financial planning services. 
 

BFM analyzes your entire financial life to create peace of mind for you and your family. BFM also helps you identify your financial goals by understanding and analyzing your lifestyle. Finally, BFM will help you see the big picture and show you how your plan will create a sustainable lifestyle for you in future years.

 
 
 





 






We would welcome the opportunity to know you better, introduce ourselves, share with you the work we do for our clients, and position ourselves as a useful resource for you. It would be a wise first step towards achieving your vision.

 

Getting to know you, your needs and motivations, is almost as important as you evaluating our capabilities to help you meet your financial goals. We do not charge a fee for our initial consultation during which we review your portfolio, and listen to your goals and objectives.




 

What type of clients do we have? Our clients are located across the globe including North America, Europe and Asia. We have an unbiased approach in selecting our clientele i.e. our client base is broad encompassing expatriates, executives, entrepreneurs, working professionals, and business individuals. We welcome all clients from individuals with multi-million dollar portfolios to individuals with negative net worth. 

 

We have discovered that one of the most valuable things we do for our clients is guiding them on selecting better performing mutual funds and making sure they have enough assets as long as they live. 

 

 




 
Copyright © 2016 Bourbon Financial Management, LLC
All rights reserved.

616 W. Fulton St. Suite 411 - Chicago, IL 60661
(+1) 312 909 6539 - info@bourbonfm.com
 unsubscribe from this list | update subscription preferences 

This newsletter is not investment advice or trade recommendations. Many factors beyond those discussed in this newsletter exist in determining a proper investment allocation and whether global investing is appropriate for each individual investor. We welcome all questions and comments regarding investing and retirement concerns.