ó Many mutual fund investors were baffled this year to
get a tax bill for mutual funds they owned that may not
have even earned any money last year, and that has a lot
to do with the disconnect between the way mutual funds
operate and the actual returns that shareholders reap.
most common risk people think about in investing is the
risk that their principle could go down in value and the
risk of purchasing power going down when it comes to
inflation," said Robert Hapanowicz, president of
Hapanowicz & Associates in Pittsburgh.
risk is the effect of taxes on the returns of your
stock mutual funds may not always be tax-friendly.
fund managers are constantly buying and selling
securities within the fund. They must pass along to
shareholders any realized capital gains that are not
offset by losses by the end of the accounting year.
one reason an investor should never buy into a mutual
fund just prior to a capital gains distribution, which
typically occurs in December.
the nationís stock markets saw low or even negative
returns last year, mutual funds had already carried
forward the losses sustained coming out of the financial
crisis and used those to offset the substantial gains
they were earning in 2013 and 2014. By 2015, fund
managers had few if any losses to offset gains, which
resulted in shareholders receiving larger taxable gain
distributions even though they may not have made any
mutual funds are the reigning heavyweights of the
financial services industry, exchange traded funds (or
ETFs) that track small nooks and crannies of the
investment world are gaining popularity. Thatís partly
because ETFs can be more tax-efficient compared to
to the Investment Company Institute in Washington, D.C.,
total ETF assets grew from $1.1 trillion in 2012 to $2.1
trillion as of March 2016.
fund assets, on the other hand, grew from $13 trillion
in 2012 to $15.7 trillion in March.
the investorís decision when to sell an ETF and pay
taxes as opposed to paying taxes at the whim of a mutual
fund manager," Hapanowicz said. "ETFs put
investors more in the driverís seat regarding when
capital gains are realized and therefore when they pay
traded funds try to replicate the performance of a stock
market index, such as the S&P 500, the Russell 2000
or a market sector, such as energy or technology.
Similar to mutual funds, exchange traded funds offer
investors partial ownership of an undivided pool of
stocks and other assets.
main difference between the two comes down to how they
an investor sells shares in a mutual fund for cash, the
fund manager must sell some of the fundís holdings to
raise the cash to pay the redeeming shareholder. Those
transactions have tax consequences and if they result in
a gain, the gain must be distributed to all
managers need not sell assets to settle sales. The fundsí
shares are sold on an exchange, essentially from
investor A to investor B.
exchange traded funds have advantages ó especially
when it comes to taxes ó a mutual fund will give
investors a chance to outperform the market because
mutual funds are actively managed, said Nicholas Besh,
senior vice president and investment director at PNC
Wealth Management in Pittsburgh.
mutual funds can use techniques to offer a better
risk-adjusted return," Besh said. "Mutual
funds can use hedging techniques or diversify so that
volatility is less. With an ETF, it holds whatever it
holds and there are no changes.
hard to say one is better than the other and many
investors use both in a portfolio. I personally
recommend using both."
DiNuzzo, chief investment officer at DiNuzzo Index
Advisors in Beaver, said his firm, which specializes in
retirement income planning and index investment
management, has $525 million under management and all of
it is invested in index mutual funds and ETFs.