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Buyer Beware - Buying Funds at Year End

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MJ DeMarco

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This advice isn't classified as "Fastlane" or "Slowlane" because it is really just a lesson in finance. Regardless of the lane, knowing this information can save you hundreds, if not thousands.

Be cautious buying mutual funds at year end as a buy point at the wrong time could cost you thousands. Why? Mutual funds distribute capital gains at year end which results in an immediate taxable event to you, even if you only owned the fund for 3 days.

An example from my own personal experience...

I'm looking to dump $1,000,000 into a XYZ Mutual Fund to produce some passive income.

I buy 100,000 XYZ Fund shares at $10 on December 1st.

Total account value:
XYZ Mutual Fund: $1,000,000 (100,000 shares @ $10.00)


Unfortunately, If I don't do my homework and the XYZ Fund distributes capital gains on December 2nd of 60 cents per share, I'm gonna get HIT with unecessary costs which in no uncertain terms, is like tossing $$ out the window of a moving car.

Immediately as the mutual fund company distributes cap gains, the share price drops to $9.40 and my account is allocated $60,000 in cap gains.

Now my account reads:

Total Account Value:
XYZ Mutual Fund: $1,000,000 (106,383 shares X $9.40 share)


Problem: The $60,000 in new shares will be taxed as short-term capital gains immediately resulting in a loss of $21,000 to your net worth -- added to your tax bill.

The prudent thing is to wait AFTER capital gains distributions to avoid unwanted capital gain distributions being tacked on to your tax bill -- resulting in detrimental effects to your total ROI.

This example applies to any size investment - the loss determined by your short-term capital gains rate.

For large sized investments in any fund, it is important to wait until after cap-gain distributions. For smaller investments, it might not make much a difference as the opportunity cost exceeds the tax hit. (For smaller income brackets)

MJ
 

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Corrado79

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Sep 24, 2007
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Santa Monica, CA
Thanks. Great advice!

Speaking of Mutual Funds, what is a good company through which to buy them? Although slow lane, I like to place some of my business's liquid assets in there, instead of staying as cash, between investments/purchases. I've personally used ING before and was happy, buy they do not offer funds for business accounts. Any suggestions?
 
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MJ DeMarco

MJ DeMarco

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I have accounts with Vanguard, T. Rowe Price, Fidelity and Alpine. All have been great to work with.

EDIT: Woops, these are personal, not thru business but I'm sure you can start business accts with them.
 

imirza

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Jul 29, 2007
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Instead of mutual funds have you tried buying ETFs ?

Most mutual funds - infact over 90% lag the overall market.
If you think the market is going up, go long DIA (Dow) , SPY (S&P 500) or QQQQ (Nasdaq 100) .

Now they have these new bull ETFs which do 2X the actual index
DDM does twice the Dow. So if the Dow is up 1 %, DDM is up close to 2%.
SSO is 2x the S&P 500.
QLD is 2x the QQQQ

The cool thing is you also have leveraged bear ETFs like DXD( 2X inverse of the Dow), SDS(S&P 2X inverse) and QID (2X QQQQ Inverse). If you think the market is going down, you can go long these leveraged inverse ETFs and make twice the gains than if you shorted the indices.

They also have sector ETFs in than are 2x bull and 2x inverse.

A good sector ETF is SRS which is basically an ultra bear real estate ETF. If the RE sector is down 2%, SRS is up around 4% .The market took a little beating today but SRS was up 4.2%. QLD was down 1.7%. If you had 70% of your portfolio in QLD and 30% in SRS, you'd have broken even today despite the overall market being down 0.8-1%.
 

Diane Kennedy

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Aug 31, 2007
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MJ: I just gave you Rep on this one. I completely forgot about that good advice and am going to put a reminder on my blog. I have seen the sad results of people hit at tax time/year end for a fund just bought.
 

Corrado79

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Sep 24, 2007
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I have business (corporate) accounts at ETrade and Optionsxpress currently and have had one at Ameritrade in the past. Most any brokerage should offer corporate accounts.
Surprisingly, many brokerages either do not have such an account, or it has a $500,000 minimum, or it is a retirement vehicle only. I've only been ably to find TD Ameritrade or eTrade as an option.

I was looking at eTrade as an option, but I wanted to use a broker who had a high-yield savingd account as well. ING has a high-yield business savings account, but no brokerage for business. eTrade is the opposite.

So far, I have not found one that does both, but ING claims to be adding investment options in the future.
 

imirza

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Jul 29, 2007
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I actually have been looking to investing in some REIT's for the time between real estate deals. Any good suggestions as to ones to buy or brokers to buy them from?
Sorry. i don't know much about REITs. But if you believe real estate has bottomed here ( homebuilders etc) you could take a shot at URE which is a bull Real estate ETF which mimicks the Dow Jones Real estate index x 2. If DJRE is up 1% , URE is up close to 2%. URE is the opposite of the SRS (which I am currently long).

Here are some Ultra (2x) Bull and Ultra (2x) bear sector ETFs

BULL

DDM - Dow 30
SSO - S&P 500
QLD - QQQ
MVV - Midcap 400
SAA - Small cap 600
UWM - Russell 2000

UYM - Basic materials
UGE - Consumer goods
UCC - Consumer services
UYG - Financials
RXL - Health care
UXI - Industrials
DIG - Oil and gas
URE - Real estate
USD - Semiconductors
ROM - Technology
UPW - Utilities


BEAR

DXD - Dow30
SDS - S&P 500
QID - QQQ
MZZ - Midcap 400
SDD - Smallcap 600
TWM - Russell 2000

SMN - Basic materials
SZK - Consumer goods
SCC - Consumer services
SKF - Financials
RXD - Healthcare
SRS - Real estate
SIJ - Industrials
DUG - Oil and gas
SSG - semi conductors
REW - technology
SDP = utilities
 

preciseau

New Contributor
Oct 2, 2012
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Quick question about buying funds. For long term capital gains you need to wait over 1 year. What happens with the dividend payout happens under that period ? You have to pay short term gains for the first year only.

Ex. A fund distributes dividends on October 22, 2012. You buy on October 25th, 2012, but next year, the dividends will be paid out on the same date. Because it has been less than 1 year, how does this affect taxes? Does it only affect this for the first year.

Or what happens when a fund pays out monthly? Is it only taxed if you withdrawal the dividend from the fund?

Sorry for the newbie questions - just don't want to get killed on unnecessary taxes.
 

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