April 15th has to be one of the least liked days of the year. Not that paying taxes is a bad thing, but paying too much in taxes is. If you have a nagging feeling that somehow you’re paying unnecessary taxes, consider five ways that indexing would cut the tax tab.
- Buy and hold – The prime source of taxes on investments comes from selling securities and producing capital gains. Indexing is an inherent buy and hold strategy, seeking to reap the long-term returns of entire asset classes, not jumping in and out of specific stocks for short-term (and taxable) gains.
- No gains taxes if you don’t sell – Warren Buffett loves the S&P 500 (see America’s Greatest Stockpicker says “Index”) for its diversification, and the ability to own it for just a few basis points in management fees. We also love it because it doesn’t generate taxable gains distributions. SPY – the S&P 500 ETF – debuted in 1993 and has compounded annually at 8.68% pre-tax and 8.37% after tax since then. Zero capital gains distributions so far, and no reason to expect that to change in the future. The only tax has been on dividends.
- No late year surprises – If you’ve owned mutual, hedge or private equity funds, you’re probably familiar with the end of year announcement of taxable gains distributions. An actively managed fund may sell securities all year long trying to beat the market or increase value, and rack up a big tax liability along the way. You pay the tax even if you owned the fund for part of the year. With ETFs, however, you control your basis and control your tax payments. (Mutual funds and comingled funds are so 20th century!)
- Turnover without taxation – Less than half of the companies in the S&P 500 today were in the index in 1993; winners grow and losers disappear. Yet SPY, managed by State Street, has made all the buy and sell trades to track the index without having to make taxable distributions.
- Make lemonade – Gold was a big lemon in 2013, with its biggest decline in decades, down 33 percent. What did we do? When we rebalanced portfolios, we realized losses in gold to offset capital gains in stock ETFs, which had a banner year. Offsetting the gains eliminates the tax. Any alert advisor would have done the same thing for you.
It’s what you keep, not what you make
Your after-tax performance – what you keep – is the only number that really matters. I encourage all investors to demand after-tax reporting. If your advisor doesn’t provide it, we can take a look at your portfolio and identify any taxes you could have avoided.
Want to know more?
Give us a call at 617-217-2772 – we’d love to hear what’s on your mind
This article may include forward-looking statements. All statements other than statements of historical fact are forward-looking statements (including words such as “believe,” “estimate,” “anticipate,” “may,” “will,” “should,” and “expect”). Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to be correct. Various factors could cause actual results or performance to differ materially from those discussed in such forward-looking statements.
Nothing in this article is intended to be or should be construed as individualized investment advice. All content is of a general nature. Individual investors should consult their investment adviser, accountant, and/or attorney for specifically tailored advice.
Any references to third-party data or opinions are listed for informational purposes only and have not been verified for accuracy by the Adviser. Adviser does not endorse the statements, services or performance of any third-party vendor without specifically assessing the suitability of a third-party to a client’s or a prospective client’s needs and objectives.
Past performance is not indicative of future results. Investment in securities, including mutual funds and ETFs, may result in loss of income and/or principal.
An investment cannot be made directly in an index.
- This communication may include forward-looking statements. All statements other than statements of historical fact are forward-looking statements (including words such as “believe,” “estimate,” “anticipate,” “may,” “will,” “should,” and “expect”). Although we believe that the expectations reflected in such forward-looking statements are reasonable, we can give no assurance that such expectations will prove to be correct. Various factors could cause actual results or performance to differ materially from those discussed in such forward-looking statements.”
- “Historical performance is not indicative of future results. The investment return will fluctuate with market conditions.
- Past performance is not indicative of any specific investment or future results. Views regarding the economy, securities markets or other specialized areas, like all predictors of future events, cannot be guaranteed to be accurate and may result in economic loss to the investor.
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