Capital Gain Distributions on Mutual Funds, What You Should Know

By William Puduski, Newburyport.com Correspondent
Will Puduski is a Financial Advisor and Partner for Seacoast Wealth Management of Steward Partners located in Portsmouth, New Hampshire. Will has spent the last 4 years working alongside his team after spending 2 years with Northwestern Mutual. His role is centered around the development and implementation of financial planning strategies for high-net-worth individuals, families, and business owners, as well as managing their corporate retirement plans. Will and his team work with clients first by understanding their financial situation, goals and aspirations, then develop a plan centered around the fundamentals of asset allocation and risk management. Through an ongoing relationship they monitor their clients’ investments and goals, helping them pursue their financial future. Will graduated magna cum laude from The University of Massachusetts, Lowell, with a Bachelor of Science degree in business administration and finance, while serving as a three-year captain on the Universities’ Division 1 Men’s Lacrosse team. Most recently, Will earned the Accredited Asset Management Specialist (AAMS) designation from the College of Financial Planning. Outside of work, Will values spending time with his family and friends; he values their relationships and enjoys the activities that bring them together. Some of those activities include fishing, boating, cheering on the Patriots and volunteer coaching for the Portsmouth High school Boy’s Lacrosse team.
Seacoast Wealth Management of Steward Partners
Capital Gain Distributions, Mutual Funds, Newburyport

In a year where most asset classes have seen significant losses, it is hard to comprehend a mutual fund paying out a capital gain at the end of this year. With clients holding mutual funds in a taxable account, this can be especially bothersome as this can generate a taxable event for the shareholder in a year where many funds are down year-to-date. In today’s article, we will dive into how a mutual fund is structured, why these distributions have been paid out this year, and what this means for your account.

A mutual fund is an investment vehicle constructed by an investment company where a portfolio manager, along with their team of analysts and traders, buy and sell underlying securities with a particular objective in mind. Objectives may include strategies such as market cap-specific (large, mid, or small cap companies), fixed income objectives (tax-free municipal strategies, high yield, or investment grade), themes (sector-specific, value, or growth) or even a mix of all at different weightings.

With each specific fund and objective, underlying securities are traded by managers, creating capital gains and losses inside the fund. By law, the fund must pay out 90% of dividends (from the underlying stocks) and realized gains to shareholders annually. Given the volatility we have seen this year, portfolio managers may have traded excessively to keep up with this year’s dynamic market and to meet outflows from their funds as investors liquidate and allocate to cash. In a situation where fund outflows have surpassed inflows (like we have seen in many funds this year), portfolio managers can be forced to sell securities to meet those outflows, thereby creating capital gains and losses.

If there is a net gain from all the securities sold that year to make up redemption requests, these gains will have to flow to the shareholders. Mutual funds will then post a capital gain distribution at the end of the year to comply to regulations and make up for the trading and shifts in the portfolio. In turn, this can create a taxable event for the shareholder regardless if they hold the fund at a gain or loss.

The bad news? During years like 2022, investors can potentially pay capital gain tax on mutual fund positions they hold in taxable accounts. The good news? With proper financial planning and tax planning, these capital gain distributions can be avoided or mitigated. If you haven’t planned for potential capital gain distributions in your taxable accounts, please reach out to our team for a no-cost portfolio consultation.

We can be reached here:

Seacoastwealthmangement@stewardpartners.com

603.427.8855

William Puduski
Partner, Vise President

Steward Partners Investment Solutions, LLC (“Steward Partners”), its affiliates and Steward Partners Wealth Managers do not provide tax or legal advice.  You should consult with your tax advisor for matters involving taxation and tax planning and their attorney for matters involving trust and estate planning and other legal matters.

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