The Tax Implications of Selling Mutual Funds & Buying New Mutual Funds

Buying and selling mutual funds can trigger tax consequences similar to those of stock transactions.

Buying and selling mutual funds can trigger tax consequences similar to those of stock transactions.

A mutual fund allows you to buy entire portfolios of securities with a single purchase, rather than having to buy individual stocks, bonds or other investments, When you buy and sell mutual funds, you'll have to report those transactions on your taxes, just as if you bought individual securities. Depending on your financial situation, buying new mutual funds right after selling other funds could create either a tax benefit or a tax problem.

Capital Gains

If you sell a mutual fund for more money than you spent to purchase it, you've generated a capital gain. To determine the amount of your capital gain, subtract your total cost basis from your sales proceeds. Your cost basis includes the amount you originally paid for the fund, including any commissions, plus the amount of any additional investments you've made, such as reinvested dividends. If you sell the fund one year or less after you purchase it, you'll have a short-term capital gain, which is taxed at your ordinary income tax rate. To benefit from the lower long-term capital gains rate, you must hold your fund for more than one year. Buying a new fund will not affect the amount of capital gains you report on the sale of your original fund.

Capital Losses

Capital losses are calculated the same way as capital gains. If the total amount you paid for a fund exceeds the amount of your sales proceeds, you have a capital loss. A capital loss can help reduce your taxes because the IRS allows you to offset gains and losses. For example, if you have $10,000 in profits from selling stock and take a $10,000 loss from selling your mutual fund, the gain and loss offset each other and you won't have to pay taxes on your original $10,000 gain. If you have no gains to offset, you can carry over your loss to future years. If you buy a new mutual fund and later sell it at a gain, you may be able to use the loss from your original fund to reduce or eliminate your tax liability.

Wash Sales

One of the dangers of buying a new fund after selling an old fund is the risk of a wash sale. A wash sale occurs if you sell an asset at a loss and then repurchase the same or a similar asset within 30 days. If you trigger a wash sale, the IRS will disallow the use of the capital loss to offset any gains. You can usually avoid a wash sale if you buy and sell two different mutual funds. However, if you repurchase the exact same fund after selling it at a loss, you will have a wash sale.

IRAs

If you are buying and selling your mutual funds in an individual retirement account, you don't have to worry about any tax issues. As a qualified retirement plan, transactions in an IRA are tax-exempt until you withdraw the money from the account. You could buy and sell funds every day in an IRA and never pay tax on those transactions, no matter how large your gain, until you take the money out of your IRA. At that time, your distributions will be taxed as ordinary income.

 

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