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number one

There are capital gains and capital-gains distributions. If you sell an investment for more than its cost basis (its purchase price adjusted for dividends and distributions), that’s a capital gain. Fund managers buy and sell holdings throughout the year and are legally required to pass profits from those sales on to shareholders—those are capital-gains distributions.

number two

Capital-gains distributions aren’t a response to action on your part. You can receive a capital-gains distribution from a fund you still own. Funds are required to distribute nearly all the capital gains they accrue at least once a year.  

number three

You could see distributions even if your fund is in the red. You can receive capital-gains distributions even if the fund you own posted negative returns for the year. This happens when a fund manager sells underlying shares for a profit even though the fund itself experienced a loss.

number four

The tax man won’t cometh (in a retirement account). Capital-gains distributions aren’t taxable if they’re from a fund you own in a tax-deferred account such as a 401(k), 403(b), or IRA—unless you make a withdrawal from those accounts instead of allowing them to be reinvested. 

number five

A gift that could keep on giving. In a tax-deferred account, if you reinvest your capital-gains distribution to purchase additional shares, it’s not a taxable event.

number six

For non-retirement accounts, how much you owe Uncle Sam depends on length of ownership. If an asset is sold within a year or less of its purchase, it’s considered a short-term capital gain and is taxed at the same rate as your ordinary income. Investments sold after more than one year are considered long-term capital gains and are generally taxed at a lower rate than your ordinary income (see tables below).

number seven

Dividends are different. Dividends are a share of earnings paid to current shareholders, typically at regular intervals. If you own individual stocks, dividends may be paid directly from the company to you. If you own a fund, it could distribute dividends to you, too. Conversely, capital gains are only created when an asset is sold, either by you or by your fund manager.

number eight

Look for IRS Forms 1099. If you still own your investments, you’ll likely receive a Form 1099-DIV. It lists all your dividend or capital-gains distributions for the previous tax year. If you sold an investment, Form 1099-B shows your capital gains (or capital losses if you sell an investment for less than its cost basis).

number nine

If you win some but lose more, it changes the situation. In taxable accounts, if all your capital losses are greater than your capital gains after netting them out on Form 1099-B, it could negate your tax liability. You may also be able to deduct up to $3,000 of your losses on your tax return each year if they exceed your gains, and you can carry those losses forward in future years.

number ten

Some funds distribute more than others. Exchange-traded funds (ETFs), for example, tend to have relatively low turnover (e.g. they buy and sell securities less frequently), so they may have lower capital-gains distributions than many other investments.

Tax Rates for Long-term Capital Gains Vary by Income Level
2021 Capital Gains Tax Brackets 

Single Filers 

Income Level Tax Rate
<$40,400 0%
Between $40,400 and $445,850 15%
>$445,850 20%

 

Married Filing Jointly

Income Level Tax Rate
<$80,800 0%
Between $80,800 and $501,600 15%
>$501,600 20%

 

Head of Household

Income Level Tax Rate
<$54,100 0%
Between $54,100 and $473,750 15%
>$473,750 20%

Data sources: TaxFoundation.org and IRS, as of 11/20.

If you have questions about capital gains and capital-gains distributions, talk to your financial professional or tax professional. 

 

All information provided is for informational and educational purposes only and is not intended to provide investment, tax, accounting or legal advice. As with all matters of an investment, tax, or legal nature, you and your clients should consult with a qualified tax or legal professional regarding your or your client’s specific legal or tax situation, as applicable. The preceding is not intended to be a recommendation or advice.

This information does not take into account the specific investment objectives, tax and financial condition of any specific person. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. This material and/or its contents are current at the time of writing and are subject to change without notice. This material may not be copied, photocopied or duplicated in any form or distributed in whole or in part, for any purpose, without the express written consent of Hartford Funds.

CCWP052   220862

 

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