Avoiding the Mutual Fund Tax Trap



Jeffery Colon’s paper titled “The Great ETF Tax-Swindle: the Taxation of In-Kind Redemptions Opens a New Window” was mentioned in a Fox Business article.

While not all ETFs are necessarily well-managed from a tax angle, funds with a large asset base linked to broadly diversified traditional indexes have consistently delivered on the promise of minimal year-to-year tax liabilities.  As proof, around 25 ETF issuers had no capital gains distributions in 2017, which is an amazing feat. And many ETFs have not distributed capital gains for years!


For the record, ETFs are not immune to untimely capital gains distributions or taxes. While generally a rare event, this can nonetheless occur due to a variety of factors like portfolio rebalancing or high turnover. Also, some bond funds use cash transactions versus doing in-kind redemptions thereby adding to the possibility of shareholder tax burdens.


In summary, the significant tax advantage of ETFs over mutual funds cannot be overstated. In some circles, it’s become such a hot button for ETF critics, they now claim ETF products have an unfair advantage with tax rules that should be changed or reversed. In a white paper titled, “The Great ETF Tax-Swindle: the Taxation of In-Kind Redemptions Opens a New Window. ” by Jeffrey M. Colon at Fordham University School of Law, the author begs for greater scrutiny of how ETFs are taxed.

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