Exchange Traded Funds (ETFs)
Talk of raising the capital gains tax rate points to yet another reason we prefer ETFs over mutual funds
(2021.04.27) There are a number of reasons we migrated away from mutual funds in favor of exchange traded funds (ETFs) some years back, but the current tax rate discussion emanating from D.C. points to one specific benefit of the latter: their tax efficiency. As a young broker, one perennial pain came from the collection of mutual fund capital gains distribution figures for clients. Even if a client held a mutual fund throughout the entire year, they still had to pay taxes on the capital gains generated by the internal trades of the portfolio managers (PMs)—assuming the funds weren't held in an IRA, of course. For example, in the late 1990s the largest position held in client accounts was the venerable Growth Fund of America (AGTHX). The estimated capital gains distribution at year-end 2020 for AGTHX is 9-11%. Counter that with the 2020 capital gains distribution on the largest equity ETF, the SPDR S&P 500 ETF Trust (SPY): 0.00%. By law, open-end mutual funds must pass along capital gains to shareholders each year; there is no such requirement for ETFs. While the Biden administration is discussing a 39.6% capital gains tax rate on only the wealthiest of shareholders, does anyone really believe that the current rates for the rest of us will stay where they are now (0% to 20%, depending on the shareholder's tax bracket)? Yet another reason to favor ETFs in the taxable portion of your investment portfolio. In the Penn Dynamic Growth Strategy, our ETF portfolio, we own a number of core funds designed to be held for the long haul, and satellite positions, designed to take advantage of current market and economic conditions. This is an excellent strategy for taxable accounts due to its relative tax efficiency. There are currently 23 funds (yes, one is an open-end fund we consider to be a stellar performer) in the Strategy.
(2021.04.27) There are a number of reasons we migrated away from mutual funds in favor of exchange traded funds (ETFs) some years back, but the current tax rate discussion emanating from D.C. points to one specific benefit of the latter: their tax efficiency. As a young broker, one perennial pain came from the collection of mutual fund capital gains distribution figures for clients. Even if a client held a mutual fund throughout the entire year, they still had to pay taxes on the capital gains generated by the internal trades of the portfolio managers (PMs)—assuming the funds weren't held in an IRA, of course. For example, in the late 1990s the largest position held in client accounts was the venerable Growth Fund of America (AGTHX). The estimated capital gains distribution at year-end 2020 for AGTHX is 9-11%. Counter that with the 2020 capital gains distribution on the largest equity ETF, the SPDR S&P 500 ETF Trust (SPY): 0.00%. By law, open-end mutual funds must pass along capital gains to shareholders each year; there is no such requirement for ETFs. While the Biden administration is discussing a 39.6% capital gains tax rate on only the wealthiest of shareholders, does anyone really believe that the current rates for the rest of us will stay where they are now (0% to 20%, depending on the shareholder's tax bracket)? Yet another reason to favor ETFs in the taxable portion of your investment portfolio. In the Penn Dynamic Growth Strategy, our ETF portfolio, we own a number of core funds designed to be held for the long haul, and satellite positions, designed to take advantage of current market and economic conditions. This is an excellent strategy for taxable accounts due to its relative tax efficiency. There are currently 23 funds (yes, one is an open-end fund we consider to be a stellar performer) in the Strategy.