Here's a statement of the obvious: The opinions expressed here are those of the participants, not those of the Mutual Fund Observer. We cannot vouch for the accuracy or appropriateness of any of it, though we do encourage civility and good humor.
Matthews lately sent me an option-form. I selected "FIFO." First in, first out. Was that a good idea? Of course, we can all change our minds and switch it. Did I do good?
For example, if you're liquidating a position, then all of the methods except average cost give the same result. That's because you're selling all shares, so it doesn't matter whether you say you're selling the highest cost ones first, or the oldest ones first, you're selling the same shares (i.e. all of them). And all methods except average cost use the actual cost of the shares sold.
In a rising market, the long term shares will have a lower cost than the short term shares (definition of rising market). So if you use actual cost, you'll have higher than average gains on the older (long term) shares, and smaller than average gains on the newer (short term) shares. That's good - short term gains are taxed at a higher rate. But if you were to use average cost, then all the shares, long term and short term, would show the same gain. So your short term shares would show more gain than if you'd used actual cost, and that's bad.
In a falling market, the opposite is true.
If you're not liquidating your position, then the distinction between FIFO and the other actual cost methods becomes significant. As before, if you're selling in a rising market, then you're selling off shares with the lowest cost, and thus realizing the highest gains, rather than deferring them. You might want to sell the long term shares with the highest (not lowest) cost. That way, you realize less gain now (at the expense of realizing more gains when you sell the remaining shares).
There are all sorts of options available now, depending upon your broker or fund company. Many are designed to optimize your tax situation.
But you can specify which shares you're selling at the time you sell the shares (unless you indicate or have defaulted to average cost, in which case the shares are sold oldest first, just like FIFO). And that gives you the most flexibility, because you're deciding at the latest possible time how to account for the shares sold
Some systems will help you select those shares at the point of sale to optimize taxes. For example, Fidelity's current system will let you pick long term shares first, or short term shares first. And if you do select one type (e.g. long term), upon request it will automatically identify the highest cost long term shares (if that's what you want), or the lowest cost long term shares (if you pick that option), or the set of long term shares whose cost comes closest to the redemption value (minimizing net gain/loss). Same as if you'd selected one of these as your default. (You selected FIFO as your default.) Or you can pick and choose each share to sell.
If I were relying upon the default, I'd probably either select average cost (if I tended not to liquidate my positions) or minimize gain (with selling long term first). But that's me, and it depends on what your particular tax situation is. If you're expecting capital gains tax to rise significantly (e.g. you're in a zero bracket this year for cap gains, but will be paying 15+% next year) then you might want to sell your lowest cost shares first (to realize the most gains now, when they're not taxed).
Holy cow. THAT was thorough. Thank you! I get it. I cannot help but to think that the gummint ought to simplify all of this by making the equitable selection among all the various options and dictate that ALL of us will be paying taxes THIS way, not THAT way; or, permit my wonderful professional tax adviser to simply choose the option that best suits my circumstances. JEEZ.
Anyhow, I do believe that I'll be paying zero taxes on cap. gains going forward, given my bracket.
You mean I wrote all that for nothing - it doesn't matter for you?
Glad it seemed clear (albeit convoluted) to you; this really this is nothing new, since you could always select which shares to sell. And I've done my English composition practice for today.
@msf: Well, I appreciated it - thanx!! Have a much better handle now on the workings.
But I look at some of the funds I have held forever, & some I haven't, & look at how wildly my income fluctuated over the past 8-9 years (remember that bullc**p about you will defer taxes on your IRA until after age 60 when your tax bracket will be lower -- haha -- only I had a better job & income AFTER I hit 60 -- and 70, plus not to even mention medicare surcharges kicking in just as I "retired" from the second job etc etc). The only conclusion I can reach is that trying to guess what your income & taxes will look like, and most of all, what the capital gains taxes may look like even a couple of years ahead is strictly a gambling game. I have a pile of these forms sitting on the table and maybe my election "could" make a difference in some cases, but I honestly just don't think it is worth a lot of effort to try to outguess the future. The only thing certain is that we will all be paying more taxes that we would have guessed 20 years ago. And the future will be different from what we think.....
Comments
For example, if you're liquidating a position, then all of the methods except average cost give the same result. That's because you're selling all shares, so it doesn't matter whether you say you're selling the highest cost ones first, or the oldest ones first, you're selling the same shares (i.e. all of them). And all methods except average cost use the actual cost of the shares sold.
In a rising market, the long term shares will have a lower cost than the short term shares (definition of rising market). So if you use actual cost, you'll have higher than average gains on the older (long term) shares, and smaller than average gains on the newer (short term) shares. That's good - short term gains are taxed at a higher rate. But if you were to use average cost, then all the shares, long term and short term, would show the same gain. So your short term shares would show more gain than if you'd used actual cost, and that's bad.
In a falling market, the opposite is true.
If you're not liquidating your position, then the distinction between FIFO and the other actual cost methods becomes significant. As before, if you're selling in a rising market, then you're selling off shares with the lowest cost, and thus realizing the highest gains, rather than deferring them. You might want to sell the long term shares with the highest (not lowest) cost. That way, you realize less gain now (at the expense of realizing more gains when you sell the remaining shares).
There are all sorts of options available now, depending upon your broker or fund company. Many are designed to optimize your tax situation.
But you can specify which shares you're selling at the time you sell the shares (unless you indicate or have defaulted to average cost, in which case the shares are sold oldest first, just like FIFO). And that gives you the most flexibility, because you're deciding at the latest possible time how to account for the shares sold
Some systems will help you select those shares at the point of sale to optimize taxes. For example, Fidelity's current system will let you pick long term shares first, or short term shares first. And if you do select one type (e.g. long term), upon request it will automatically identify the highest cost long term shares (if that's what you want), or the lowest cost long term shares (if you pick that option), or the set of long term shares whose cost comes closest to the redemption value (minimizing net gain/loss). Same as if you'd selected one of these as your default. (You selected FIFO as your default.) Or you can pick and choose each share to sell.
If I were relying upon the default, I'd probably either select average cost (if I tended not to liquidate my positions) or minimize gain (with selling long term first). But that's me, and it depends on what your particular tax situation is. If you're expecting capital gains tax to rise significantly (e.g. you're in a zero bracket this year for cap gains, but will be paying 15+% next year) then you might want to sell your lowest cost shares first (to realize the most gains now, when they're not taxed).
Anyhow, I do believe that I'll be paying zero taxes on cap. gains going forward, given my bracket.
Glad it seemed clear (albeit convoluted) to you; this really this is nothing new, since you could always select which shares to sell. And I've done my English composition practice for today
But I look at some of the funds I have held forever, & some I haven't, & look at how wildly my income fluctuated over the past 8-9 years (remember that bullc**p about you will defer taxes on your IRA until after age 60 when your tax bracket will be lower -- haha -- only I had a better job & income AFTER I hit 60 -- and 70, plus not to even mention medicare surcharges kicking in just as I "retired" from the second job etc etc). The only conclusion I can reach is that trying to guess what your income & taxes will look like, and most of all, what the capital gains taxes may look like even a couple of years ahead is strictly a gambling game. I have a pile of these forms sitting on the table and maybe my election "could" make a difference in some cases, but I honestly just don't think it is worth a lot of effort to try to outguess the future. The only thing certain is that we will all be paying more taxes that we would have guessed 20 years ago. And the future will be different from what we think.....