TAX-EFFICIENT INVESTING: A WISE CHOICE
T
axes can take a chunk out of your investment returns; yet,
Mutual Funds with LowTurnover Rates
many investors don’t give much thought to taxes when
A mutual funds turnover rate measures the extent to which
they make investment decisions. While investment de-
the fund sells securities and replaces them with new ones: the
cisions shouldn’t be based entirely on tax considerations, tax-
higher the turnover rate, the more frequently the fund’s manag-
efficient investing may make a significant difference in your net
ers are trading the fund’s holdings. Turnover rate is important
gain. Employing some of the following strategies could help you
to you as an investor because, when the fund sells securities, a
retain more of your potential investment earnings and lessen
capital gain or loss generally occurs for tax purposes. A portion
your tax obligation.
of any capital gains realized by the fund is taxable to you, even
if no distribution occurs or if your distribution is reinvested in
Invest in Stocks for the Long Term
additional fund shares. A low turnover rate indicates that capital
Following a buy-and-hold strategy for your stock invest-
gains generated by sales of appreciated securities should be kept
ments may help save on taxes in the long run, as well as poten-
to a minimum, allowing you to wait until you sell fund shares to
tially increasing your net worth. If you trade your stock holdings
take potential profits.
frequently even if it’s only once a year you may end up owing es-
timated taxes and a significant capital gains tax on your profits.
Tax-deferred Retirement Plan
Capital gains through 2010 are taxed at 15% on invest-
Don’t neglect your retirement plan as a vehicle for tax-de-
ments you hold longer than one year. From 2008 through 2010,
ferred investing. Participating in an employer’s 401(k) or 403(b)
the long-term capital gains rate for some investors will drop to
plan (or a Keogh plan, if you’re self-employed) reduces your cur-
zero. (0% for gains that would otherwise be taxed in the 10% or
rent tax obligation, since taxes on your contributions and earn-
15% marginal federal income tax bracket). After 2010, the long-
ings generally are deferred until you withdraw funds from the
term capital gains tax rate will be 20% (10% for taxpayers in the
plan, typically at retirement. Distributions may be subject to in-
15% tax bracket).
come taxes and if made prior to the age of 59 ½, are subject to
Gains on investments you’ve owned one year or less are
an additional Federal 10% penalty.
taxed at your regular federal income-tax rate, which may be as
Individual Retirement Accounts (IRAs) are another option to
high as 35%. So, even if you reinvest your sales profits, taxes
consider if you are eligible. Your contributions to a regular IRA
will reduce the amount you’re reinvesting, effectively diminish-
may be tax deductible. And, although contributions to a Roth
ing the size of your portfolio and its overall potential return.
IRA are not deductible, account earnings are tax deferred and
can ultimately be withdrawn from the Roth IRA income-tax free,
Tax-exempt Investments
provided certain conditions are met.
Tax-exempt investments, such as municipal bonds, produce
Hanging onto as much of your hard-earned money as pos-
income that is generally exempt from federal and often state and
sible is the goal of tax-advantaged investing. Your financial advi-
local income tax. If you’re seeking income rather than growth,
sor can help you invest with this goal in mind.
municipal bonds may be a good choice. This is especially true
Mutual funds are offered by prospectus. An investor should
for investors in higher tax brackets. Income from municipal
carefully consider the investment objectives, risks, charges and
bonds may be subject to the alternative minimum tax.
expenses of an investment company before investing. To obtain
To determine whether you would be better off buying a tax-
a prospectus that contains this and other information call or ask
able or a tax-exempt investment, you need to calculate what a
your financial representative for a free prospectus. Read it care-
taxable investment would yield on an after-tax basis and com-
fully before you invest or send money. The investment return and
pare that with the return on a tax-exempt investment. To do this,
principal value of an investment will fluctuate with changes in
subtract your marginal tax rate from 100% and multiply this per-
market conditions so that an investor’s shares, when redeemed
centage by the rate of return the taxable investment is earning.
may be worth more or less than the original amount invested.
That will give you your after-tax yield. Compare this with the
yield on the tax-exempt investment to find out which is higher.
Beverly Amon, FSA, is a registered representative of Lincoln
For example, if you are in the 30% marginal tax bracket, a Financial Advisors, a broker/dealer, member SIPC, and offers
taxable investment return of 6% equates to an after-tax return investment advisory service through Sagemark Consulting, a
of 4.2% (100% – 30% = 70%; 70% × 6% = 4.2%). Thus, a tax-
division of Lincoln Financial Advisors Corp., a registered invest-
exempt investment yielding higher than 4.2% will give you a
ment advisor, 100 Northfield Dr., Windsor, CT 06095. 860-298-
better yield after taxes are considered.
1800. Insurance offered through Lincoln affiliates and other
fine companies. . This information should not be construed
Sell a Loser To Offset a Capital Gain
as legal or tax advice. You may want to consult a tax advisor
regarding this information as it relates to your personal circum-
Capital losses offset capital gains dollar for dollar and up to
stances.
$3,000 of ordinary income a year. If you will have capital gains
to report on your income-tax return, consider selling a losing in-
vestment and applying the loss to offset an equivalent capital gain.
10
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