Keep your stock fund taxes to a minimum
- Alan Lavine and Gail Liberman
Want to boost your investment performance without upping the risk? Keep your investment taxes to a minimum.
Most people limit taxes by investing in tax-free bonds and tax-deferred retirement accounts such as IRAs and 401(k) s.
But don't rule out tax efficient mutual funds with low expense when it comes to investing. Tax-efficient funds generally are specifically managed to minimize taxable distributions. This leaves more assets in the account to compound earnings over the time.
One no-load mutual fund company, T. Rowe Price, recently examined returns. It compared a taxable mutual fund, non-deductible IRA or Individual Retirement Account, and a tax-efficient mutual fund. In each, it tracked a $4,000 annual investment in a growth fund with a 10 percent annual return, including 1 percent in dividends.
The study revealed that a tax-efficient growth fund could provide more after-tax savings and greater after-tax total withdrawals over varying time periods than either the regular growth fund or the non-deductible IRA.
It based the study on a 25 percent income tax rate and 5 percent state tax rate before and after retirement.
If an investor has 10 years to retirement, it reported the tax-efficient growth fund may not produce as much before taxes at retirement as a non-deductible IRA--$69,251 in the tax-efficient growth fund, compared with $70,125 in the non-deductible IRA.
But by investing in the tax-efficient fund, over 20 years, the investor could earn 7.98 percent more after paying Uncle Sam. Over 30 years, it would be 8.83 percent more.
Of course T. Rowe Price has a vested interest in promoting their tax-efficient mutual funds. Nevertheless, the company's study is food for thought.
Other no-load fund groups with tax efficient funds include Vanguard and Fidelity Investments. Go to www.morningstar.com to get a full list of tax-efficient funds.
Spouses Gail Liberman and Alan Lavine are syndicated columnists. You can purchase Alan Lavine & Gail Liberman's latest book Quick Steps to Financial Stability (QUE Publishing 2006) online at www.moneycouple.com or at your local bookstore. E-mail them at MWliblav@aol.com.
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