Funds That Should Keep the Taxman at Bay
Stored-up losses can offset what might be sizable future gains.
Are there still equity funds out there that are positioned to be tax-efficient for years to come? It's been two years since the end of stocks' steep decline, in which many funds wound up with steep realized losses on the books. And stocks have since doubled in value, which ought to have erased a good chunk of those losses as the funds sold their winners. Furthermore, any tax-loss carryforwards (which can be used to offset realized gains, thus limiting taxable distributions to shareholders) from the 2000-02 bear market expired by late 2009. (Realized losses can be used to offset gains for seven years.)
Limiting taxable distributions can save investors quite a bit of money over the long haul--much more than they might expect. "Taxes can actually take the biggest bite out of returns, more than management fees or trading costs," says Colleen Jaconetti of Vanguard's Investment Strategy Group in a recent primer on the subject. "Historically, domestic equity funds have lost two percentage points a year to taxes. And the impact of taxes on their total wealth isn't always obvious to investors. They're typically paid at a later date, sometimes out of a different account."
Some Choices Are Battered, But Still Promising
The good news is that despite the market's sharp rise since early 2009, there are a good number of funds with sizable tax-loss carryforwards. Value funds seem to sport bigger ones at this point. While growth funds fared worse in the 2000-02 bear market as tech, media, and telecom imploded, value funds generally posted steeper losses in the most recent bear market as financial firms and debt-heavy fare in general were punished. But many funds of both stripes boast veteran managers and fine long-term records, though they've performed poorly in the most recent bear market. For investors in taxable accounts looking for equity funds, the funds below could be good choices. And some managers aren't shy about promoting the potential tax efficiency of their funds in the near future because of past losses.
Greg Carlson does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.