Tax Pain May Hit Some Mutual Fund Shareholders: Benz

This year’s correcting stock market could mean a double whammy for mutual fund investors, according to Christine Benz, Morningstar’s director of personal finance and author of 30-Minute Money Solutions: A Step-by-Step Guide to Managing Your Finances. In a recent column, Benz wrote that unlike 2016 and 2017, mutual fund investors “are barely clinging to gains for the year, and some may have even experienced losses in their holdings.”

In addition, many mutual funds will distribute capital gains that could be higher than previous years, and that “adds insult to injury,” she says.

According to Benz, a two-fold dilemma exists: 1) stocks have been running up the past decade and U.S. equity funds have appreciated holdings in their portfolios, and 2) investors are pulling funds from actively managed funds, which forces management to sell appreciated positions. She notes that the distributions are made to a reduced number of shareholders, and “that’s where big capital gains distributions come in.”

For mutual fund investors of taxable funds, this means they’ll owe taxes on distributed gains “unless they sell losing positions to offset the gains. … And they’ll owe taxes regardless of whether they spent the distribution or reinvested it.”