Watch out for year-end fund distributions
With the stock market continuing to push higher and lots of cash on the sidelines, somebody must be thinking of getting back in. But, if you’re going the fund route rather than buying individual stocks, you may want to hold off just a bit longer.
Fund companies will be making their year end distributions over the next few days. And, if you’re not careful, you could get stung with an unexpected tax bill by buying in too soon.
If you decide to invest in a certain mutual fund before the record date, you may be subjecting yourself to the same tax burden on the distribution as those who bought the fund at the beginning of the year.
And it doesn't matter whether you've owned units of the fund for just a few days – you're still looking at the same tax burden.
While the tax you pay now will either offset the tax you owe when you sell your units at a gain in the future, paying taxes sooner rather than later is a bad idea.
In a recent report, Dave Paterson, an independent fund analyst at Toronto-based Paterson & Associates, highlights Mackenzie Saxon U.S. Small Cap, Mackenzie Destination+ 2020, RBC Global Precious Metals, and Bissett Micro Cap as just a few of the funds where unitholders face significant payouts.
If any of these are on your list, holding off for a few more days likely makes sense.
By Gordon Powers, MSN Money
Posted by: Jon | Dec 21, 2021 11:25:01 AM
of course .. the upside of the 'tax-hit' is that you also get the distribution as if you held the units all year
Posted by: Daniel McKay | Dec 21, 2021 11:57:48 AM
Exactly, this is just more proof of the fact that responsible journalism no longer exists. In stead of writing this article as "Funds you may want to consider investing in before the year ends" because those same distributions will increase the value of the fund almost instantly, the author chose to ignore this and write about the less significant negative aspect of this situation. Think of the situation logically, you only pay tax when you've received income or realized a capital gain. The tax you pay on income or capital gain realized will only be a fraction to what you've actually made. It is absolutely absurd that the author would recomend avoiding such funds for this reason. Clearly this is because Bad News Sells better than sound advice.
Posted by: What? | Dec 21, 2021 12:06:44 PM
You haven't made anything. When a distribution is made, the net asset value (NAV) goes down by the same amount. Let's say you own 100 units of a mutual fund and the price is $10 per unit. That means you have $1000 in total. Let us further assume the mutual fund is issuing a distribution of 50 cents per unit. Some investors might think that they should buy the fund before the distribution so they can make the extra 50 cents per share. What actually happens after the distribution, is the unit price of the fund drops from $10 per unit to $9.50 per unit you have 100 units, then you will have a distribution of $50.
If the distribution is reinvested, then the $50 will buy 5.263 units at $9.50 per unit. In total, you will have $105.263 units at $9.50, which remains a total of $1000.
If the distribution were paid to you in cash, then you would have 100 units at $9.50 per unit, which totals $950. This makes sense given that you were paid $50 in distributions.
Posted by: A Pointer | Dec 21, 2021 12:18:13 PM
This is not bad journalism. It is in fact a risk that when you buy a fund that has realized alot of capital gains in a year you will have a tax bill. Funds do not distribute all the gains that they make. Often the gains remain in the fund, hence the price goes up. If in fact you purchase a fund before year end that has seen alot of realized gains you will have a tax bill. You will not have benefited from those gains because you paid the higher price. The fund may make a distribution, but there is no guarantee it equals the tax liability. The next risk you have is that you get the tax liability and then the market takes a big step backward like it did in the year 2000. You can be on the hook for a substanial tax bill and your assests are worth way less than you put into the mutual fund.
I know this because it happened to me. I really wish someone had disclosed this risk to me before I made the mistake.
Posted by: Contrarian Ontarian | Dec 22, 2021 1:04:58 PM
This pertains only to mutual funds held outside a Registered Plan. Make this distinction. RRIF/RRSP lose their status with regards to taxation. It is all treated as income.