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Taxable Accounts and Mutual Funds - Quick Notes Thumbnail

Taxable Accounts and Mutual Funds - Quick Notes

I just wrapped up my Tax Planning meetings with my clients. Yes, we dedicate one of our quarterly meetings specifically to taxes. Not just looking at what was done in the past, but we spend a lot of time on what I call Forward Looking Tax Planning. I will write more on this in the future and why it is one of the most important things you can do when it comes to your financial success. For now, let’s talk about taxable accounts and mutual funds. 

If you have a taxable account and own mutual funds within the taxable account, read on. For others, you may want to continue reading to avoid a situation like this. 

Background:

  • Taxable accounts are just like they are titled. There is no tax-deferment (IRAs) or tax avoidance (Roths) in them. They come in names like Individual, JTWROS (Joint Tenants with Rights of Survivorship) and Trust accounts. 
  • Mutual Funds are actively managed (lots of trading) and tax-inefficient investment products. 
  • Basically, Mutual Funds can regularly throw out Capital Gains. This means big tax bill for owners of these products.
  • ETFs (Exchange Traded Funds) are the opposite of Mutual Funds. Need I say more😉 

2022 in Review:

  • The average Capital Gain Mutual Fund distribution in 2022 was 7%.
  • Nearly 70% of Equity Mutual Funds paid out Cap Gains last year. 
  • Again, this could mean bigger tax bills for Mutual Fund owners. 
  • US Stocks were down 18% last year and Mutual Funds STILL increased taxes for their owners😲
  • Bonus comment – 2022 was the 13th year straight Mutual Fund managers as a majority failed to beat their Large Cap index. 

What This Means:

  • If you are a high-income earner and have Mutual Funds in a Taxable account, you could have paid a nice tax bill on those Capital Gains and even Interest Income. 
  • I won’t pour through the details, but if you are in the 32% marginal tax bracket and received $32,000 of Cap Gains, you could have easily paid nearly another $14,000 in taxes 😢
  • That’s roughly 44% lost in taxes because you are not being smart with your investment choices. 
  • Taxes are a Principal Loss – Once it is gone you never get it back.   

Final Thoughts:

  • Mutual Funds are much more expensive than ETFs. 
  • As shown above, they are more tax inefficient too. 
  • Their long-term performance track record is nothing to brag about. 
  • Double-check your taxable accounts for their tax efficiency. 
  •  There is no reason to tip Uncle Sam by not being tax-smart!
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