Magazine

Minimizing the Tax Hit


When selling a mutual fund, most people use their average cost as the basis for determining whether they made or lost money. But the IRS allows you to use other methods, which, depending on your situation, may result in lower gains or larger losses. Here's a hypothetical account using the Vanguard Capital Opportunity Fund.

Investment Date

Amount Invested

Price/

Share

Shares Purchased

Total Shares

JAN. 5, 2000

$25,000.00

$23.17

1078.98

1,078.98

MAR. 16

5,000.00

32.72

152.81

1,231.79

DEC. 15

Reinvest Income

197.09

25.57

7.71

1,239.50

Reinvest Capital Gains

2,365.04

25.57

92.49

1,331.99

MAY 22, 2001

5,000.00

27.23

183.62

1,515.61

SEPT. 21

15,000.00

18.63

805.15

2,320.76

DEC. 14

Reinvest Income

162.45

22.98

7.07

2,327.83

On Dec. 31, 2001, the fund's net asset value price per share is $23.62. The average cost per share is $22.65. You've invested $52,724.58 and the total value of your holding is $54,983.34.

If you are selling all of your shares, choose from these two methods:

SINGLE-CATEGORY Take the current share price of Vanguard Capital Opportunity, $23.62, and subtract your average cost per share, $22.65. That's a gain of 97¢ a share. With this fund, you have 1,331.99 shares held more than 12 months for a $1,292.03 long-term capital gain; and 995.84 shares held less than 12 months for a $965.96 short-term gain.

DOUBLE-CATEGORY Calculate two average costs--for the long-term and short-term shares--and then deduct that from the fund's current price. You have 1,331.99 long-term shares with a $24.45 average cost. With shares now $23.62, you have a $1,105.55 long-term loss. You also have 995.84 short-term shares with a $20.25 average cost for a $3,355.98 short-term gain.

If you're only selling some of your shares, choose from these three methods

AVERAGE COST If you redeem $5,000 from this fund using the average-cost method, you sell 211.69 shares at a gain of 97¢ a share ($23.62 less $22.65), a long-term gain of $205.34. The IRS will assume that you sold the oldest shares first and did it with the single-category method, meaning the same average cost was applied to all of your shares. You can use the double-category method, but you have to declare that to the IRS.

SPECIFIC SHARES Sell your highest-cost shares, purchased on Mar. 16, 2000, at $32.72. Those 152.81 shares, initially worth $5,000, are now $3,609.37--a long-term capital loss of $1,390.63. Also sell the 183.62 shares purchased on May 22, 2001, for $27.23 a share. That $5,000 investment is now worth $4,337.10--a $662.90 short-term loss. These losses can be used to counteract other realized gains in your portfolio.

FIRST-IN, FIRST-OUT If you redeem $5,000 from Vanguard Capital Opportunity without telling the fund which shares to sell, the IRS will assume you sold the oldest shares--those purchased on Jan. 5, 2000, at $23.17. At the fund's current price of $23.62, you would sell 211.69 shares, realizing a long-term capital gain of 45¢ a share for a total of $95.26. Of the three methods of selling, this is often the least tax-efficient.


Burger King's Young Buns
LIMITED-TIME OFFER SUBSCRIBE NOW

(enter your email)
(enter up to 5 email addresses, separated by commas)

Max 250 characters

 
blog comments powered by Disqus