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Advisors: Beware of Capital Gains Distributions
How to prepare for another unpleasant capital gains season
Near year-end, mutual funds allocate recognized internal capital
gains to shareholders. Although tax basis is increased by the gains
recognized, investors must pay tax on phantom income—the revenue that
doesn’t come with cash payouts. Frequently, these distributions are
not material. However, in some years, certain funds can distribute significant
capital gains. When this happens, investors can get upset by an
unexpectedly higher tax bill. From an advisor’s perspective, capital gains distributions can
negate any effort made to defer a clients’ gains through tax-loss
harvesting or other methods. And mutual funds could be doling out large capital-gains payouts again this year,
according to Morningstar’s Christine Benz. Advisors who want to
prevent clients from being dissatisfied should try to avoid material distributions.
Determinating whether a trade will produce meaningful savings will
be time-consuming for advisors who are manually implementing an
avoidance strategy for capital gains distributions. However, they can
limit the number of required calculations by weeding out: Funds without material capital gains distributions. Funds for which a suitable replacement cannot be
identified. Clients who don’t have a
significant holding in the fund. Clients
whose holdings in the fund are highly appreciated. Advisors can make a big impact on their clients’ tax bills. And
although it may be possible to do without automation, rebalancing
software like Morningstar’s Total Rebalance Expert, or TRX,
can provide automatic tax minimization as well as overall streamlined
portfolio management. The benefits of increased efficiency and a
greater competitive edge should easily overcome the cost and time
involved with adding new technology.Sheryl Rowling
4 steps to avoid capital gains distributions:
4 ways to lessen the burden of calculating capital gains
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