Mutual fund investors paid $15.8 billion in taxes last year for distributions, according to a report released today by Lipper Inc. of New York.
Funds paid out $261.1 billion in long- and short-term capital gains and income distributions in 2008, the firm reported. The total distributions represented a 55% decline, from $581.6 billion in distributions for 2007.
And last year’s tax bill was a 53% decrease from the $33.8 billion that investors paid in taxes in 2007, the report said.
“Last year was the worst downturn that we’ve seen since the Great Depression, and investors paid taxes to Uncle Sam just for sitting on their investments,” said Tom Roseen, research manager at Lipper and author of the report.
The record year for total distributions was 2007.
While many mutual funds lost money in the market downturn last year, the buying and selling of holdings within those funds by portfolio managers resulted in distributions. Some of the trading was due to forced selling to meet the pressure of shareholder redemptions.
But, if the investor held onto the fund, they received a tax bill for the capital gains.
“It was a double whammy,” Mr. Roseen said.
In 2008, equity funds lost 39.54% and taxable and tax-exempt fixed-income funds lost 7.62% and 7.46% respectively, Lipper said.
“Fixed-income investors took the brunt of [the tax hit],” Mr. Roseen said.
Investors in taxable fixed-income funds paid about $6.337 billion in taxes, accounting for 40.2% of the total tax bill paid by mutual fund investors.
Taxable fixed-income funds saw 182% and 296% increases in short-term and long-term capital gains distributions, respectively, in 2008, Lipper found.
Short-term gains increased to $7.1 billion in 2008 from $2.5 billion in 2007 and long-term gains increased to $3.7 billion in 2008 from $938 million the previous year.
On the equity side, total distributions from equity funds declined 65% to $176.2 billion in 2008 from $502.4 billion in 2007.
Equity investors paid $4.372 billion in taxes due to short- and long-term capital gains.
Equity funds distributed $96.5 billion in
dividend income, reflecting a 15% decline from 2007, and investors paid $5 billion in taxes in 2008, Lipper reported.
Most mutual fund shareholders invest their distributions back into the fund, Mr. Roseen said.
“That’s [the taxes] a large price to pay for a buy-and-hold strategy,” he said. “People who sold the fund did not have that liability.”
But with the near-record market decline, losses embedded by the funds are expected to provide some tax relief going forward.
“There is a big enough tax loss carry-forward to last for the next two or three years,” Mr. Roseen said. “Tax loss carry-forwards will offset gains in future years. That’s a big boon for the market.”
Fund managers have up to eight years to use the loss, he said.
“Investors should research the fund’s capital loss carry-forwards in the fund’s annual report,” Mr. Roseen said. “People should be very mindful to keep an eye on the tax loss carry-forward and don’t assume that you’ll have this tax holiday.”
