What Can One Do To Decrease Dividend Taxes?

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Park
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What Can One Do To Decrease Dividend Taxes?

Post by Park » Thu Dec 08, 2016 11:09 am

Dividend tax can be as high as 33% (California). And unlike cap gains, there is no deferral; forced income results in forced taxation. If one considers an investment to be a product with a positive expected return after costs, inflation and taxes, it's debatable whether dividends meet that definition, with a tax rate of 33%

What can one do?

1)Use tax advantaged accounts

2)Buy funds with low dividends. This will tend to be small and growth funds.

3)Use synthetic ETFs. These are commonly used outside the USA (Europe I think). No taxes are payable, until the ETF is sold.

4)Buy individual stocks with low dividends. One could time the selling of those stocks with dividends dates, so as to avoid the dividend.

Comments?

SQRT
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Re: What Can One Do To Decrease Dividend Taxes?

Post by SQRT » Thu Dec 08, 2016 11:16 am

Your comments seem reasonable to me. I have been a dividend investor with individual names. When I started the tax rate at the max marg was about 19% ( I'm a Canadian living in Alberta). Div tax rates have recently been increased to 31.7%. The only way I can get around this is to switch out to lower, of even nil div payers. Unfortunately my current portfolio has significant imbedded cap gains and are all in taxable accounts. Have decided to stay the course but not happily. Pretty clear that the most efficient tax strategy is to look for co's that don't pay divs and achieve the cash flow you need through regular liquidations. This will make it difficult to be properly diversified and many very good co's do pay divs.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Wagnerjb » Thu Dec 08, 2016 12:38 pm

Park wrote: 4)Buy individual stocks with low dividends. One could time the selling of those stocks with dividends dates, so as to avoid the dividend.

Comments?
Buying individual stocks with low or zero dividends make good sense. Of course, you need to buy enough individual stocks to get a decent amount of diversification. The idea of selling before each dividend is a poor one. First of all, you will generate a fair amount of cost in commissions and the bid-asked spread, most likely more cost than the tax cost of the dividend. More importantly, you will trigger capital gains tax prematurely.

Best wishes.
Andy

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jazman12
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Re: What Can One Do To Decrease Dividend Taxes?

Post by jazman12 » Thu Dec 08, 2016 2:48 pm

set your dividend payout to a cash reserve account and do not keep reinvesting in the funds. This will not trigger any additional tax burden and you could sell down slowly over a few tax cycles
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Re: What Can One Do To Decrease Dividend Taxes?

Post by livesoft » Thu Dec 08, 2016 2:56 pm

Put muni bond funds in your taxable accounts and dividend-paying stocks in tax-advantaged.

Give your dividends (or equivalent) away to charity every year. :)


I have resigned myself to just accepting dividends and getting taxed on them.
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Re: What Can One Do To Decrease Dividend Taxes?

Post by grabiner » Thu Dec 08, 2016 10:21 pm

livesoft wrote:Put muni bond funds in your taxable accounts and dividend-paying stocks in tax-advantaged.
The OP is in California, which makes this a particularly good strategy, as CA muni bonds are exempt from CA as well as federal tax. My preferred muni strategy, if all your bonds are in the taxable account, is to hold 50% CA Long-Term Tax-Exempt and 50% Limited-Term Tax-Exempt, so that you get an intermediate duration with half your bonds in CA but more than half your bond income exempt from CA tax.
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Re: What Can One Do To Decrease Dividend Taxes?

Post by JoinToday » Fri Dec 09, 2016 3:38 am

Park wrote:Dividend tax can be as high as 33% (California). And unlike cap gains, there is no deferral; forced income results in forced taxation. If one considers an investment to be a product with a positive expected return after costs, inflation and taxes, it's debatable whether dividends meet that definition, with a tax rate of 33%
......
Comments?
Are you sure about the maximum 33% marginal rate for Fed + California? 2 possible calculations:
1. 20% federal tax + 13.3% California tax = 33.3%. But this ignores the deduction of California tax on your federal returns if you itemize your deductions
2. AMT: 28% Federal AMT marginal rate (max) + 13.3% California tax = 41.3%. Do you need to add an additional 3.8% surtax for investment income with AGI above $250K, for a final marginal rate of 45.1%?

Approaching the situation where you make $2, give $1 to the gov't, and keep $1.

As a side note (in jest, I hope you can find a sliver of humor in this): Do you think you are paying your fair share in taxes?
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Re: What Can One Do To Decrease Dividend Taxes?

Post by msk » Fri Dec 09, 2016 5:02 am

Not sure what happens if you are US-based and buy an accumulative ETF that never pays dividends. I haven't yet been through a full annual cycle so not sure whether dividends-reinvested by the ETF managers even get published. I own currently Developed World Index in IWDA and Emerging Markets in EIMI, both Ireland-based, both accumulative, low cost, managed by iShares/Black Rock. I do not know their US equivalents but I have switched from SPY and similar index funds (was walloped by 30% withholding tax for 30+ years) and Berkshire Hathaway (no dividends, no withholding tax, but I am getting scared of Buffett's age). I am resident in a country with no capital gains tax and no personal income tax, so easy to switch ETFs but impossible to reclaim withholding tax. I hope these accumulative ETFs will bypass withholding tax on dividends :confused

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Quark » Fri Dec 09, 2016 6:25 am

grabiner wrote:
livesoft wrote:Put muni bond funds in your taxable accounts and dividend-paying stocks in tax-advantaged.
The OP is in California, which makes this a particularly good strategy, as CA muni bonds are exempt from CA as well as federal tax. My preferred muni strategy, if all your bonds are in the taxable account, is to hold 50% CA Long-Term Tax-Exempt and 50% Limited-Term Tax-Exempt, so that you get an intermediate duration with half your bonds in CA but more than half your bond income exempt from CA tax.
This would seem to defer the problem, to the extent tax-advantaged accounts are not Roth. OP will have to pay tax when withdrawing from an tIRA or 401(k). It becomes an issue of OP's current tax rates, future tax rate, Roth conversion issues, the time value of money and the relative interest rates of the munis and bonds currently held in tax-advantaged accounts.

Vanguard has a CA intermediate tax-exempt fund, with a duration of 5.2 years. A single fund is simpler, but obviously has more concentrated CA risk.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Phil DeMuth » Fri Dec 09, 2016 10:59 am

The top rate on dividends and LT cap gains in CA is indeed 33% (the calculations offered above are wrong. The 33% takes into account the deduction but this is offset by Pease and PEP.)

To avoid the dividend tax, invest in a diversified portfolio of zero-dividend stocks, starting with Berkshire Hathaway.

There are some low-dividend ETFs like VOT and QQQ and VUG. I would love to hear of others.

Avoid open-ended mutual funds, since these make routine distributions of (other people's) capital gains for your taxing pleasure.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Wagnerjb » Fri Dec 09, 2016 11:00 am

JoinToday wrote: 2. AMT: 28% Federal AMT marginal rate (max) + 13.3% California tax = 41.3%. Do you need to add an additional 3.8% surtax for investment income with AGI above $250K, for a final marginal rate of 45.1%?
I cannot speak to the California rates, but I don't think your AMT rate on capital gains will be 28%. I assume the dividend is qualified. If so, then you will pay something like this:

Lower income range: 15% regular + 6.5% AMT = 21.5%
Middle income range: 15% regular + 3.8% surtax + 6.5% AMT = 25.3%
Higher income range: 15% regular + 3.8% surtax + 7% AMT = 25.8%
Very high income range: 20% regular + 3.8% surtax + 7% AMT = 30.8%


Best wishes.
Andy

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Re: What Can One Do To Decrease Dividend Taxes?

Post by InternationalMan » Fri Dec 09, 2016 12:55 pm

Park wrote:3)Use synthetic ETFs. These are commonly used outside the USA (Europe I think). No taxes are payable, until the ETF is sold.?
Synthetic ETFs are more popular in Europe. US investors may have problems investing in non-US vehicles because of PFIC rules. There are US synthetic ETFs.

The biggest problem I have with synthetic ETFs is counter party risk. If everything goes belly up like it did in 2008, the investment is only worth as much as the financial stability of the underlying institution.

Synthetic ETFs are more complicated and less transparent than physical ETFs so before investing it's important to understand the risks, fees and tax consequences.

Park
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Re: What Can One Do To Decrease Dividend Taxes?

Post by Park » Fri Dec 09, 2016 1:52 pm

Phil DeMuth wrote:The top rate on dividends and LT cap gains in CA is indeed 33% (the calculations offered above are wrong. The 33% takes into account the deduction but this is offset by Pease and PEP.)

To avoid the dividend tax, invest in a diversified portfolio of zero-dividend stocks, starting with Berkshire Hathaway.

There are some low-dividend ETFs like VOT and QQQ and VUG. I would love to hear of others.

Avoid open-ended mutual funds, since these make routine distributions of (other people's) capital gains for your taxing pleasure.
VOT and VUG are both growth fund; QQQ probably is, if one did the analysis on it.

S&P500 dividend yield is 1.96%. S&P500 Growth yield is 1.87%. S&P500 Value yield is 2.73%. Russell 2000 (small cap) yield is 1.53%. Russell 2000 Growth yield is 1.02%. Russell 2000 Value yield is 1.92%. So the smaller and less value an ETF is, the lower the dividend tends to be.

I've also seen data, that for an American investor, small cap foreign developed stocks have a considerably lower correlation with the American stock market than large cap foreign developed stocks. Those small cap stocks are a better diversifier.

OTOH, value beats growth long term :( .

The following is from "Expected Returns" by Antti Ilmanen, p. 254. Of the 2.6% outperformance of large cap value (LCV) from 1927-2006, 1.3% comes from dividends. Of the 5.8% outperformance of small cap value (SCV), 0.2% comes from dividends.

From a dividend tax point of view, if you're going to tilt to value, tilt small value. And since small cap value fund tend to have higher turnover, buy an ETF. The ETF structure is considerably more turnover tax friendly than an open ended mutual fund.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Park » Fri Dec 09, 2016 2:58 pm

http://mebfaber.com/2016/05/02/much-dividends-costing/

Interesting post from Mebane Faber. Looked at the largest 2000 US stocks from 1974-2015. Shows an analysis looking at the results using market cap weighting of those stocks, and also equal weighting. Gives results for 400 stocks and 100 stocks out of the 2000.


S&P500 return is 10.77%. Top 2000 10.94/ 12.80 for market cap and equal weighting respectively.

Returns for top quartile dividend yield are 12.61/14.05/ 13.2/13.87 for 400 market cap weighted/400 equal weighted/ 100 market cap weighted/100 equal weighted

Value composite (combined rank of price-to-earnings, price-to-sales, price-to-book, and EBITDA-to-EV) 14.99/16.90/15.37/17.38

Value composite subtracting out top 25% dividend yielders 13.72/16.39/16.51/17.17

Value composite subtracting out top 50% dividend yielders 12.48/14.56/14.07/15.93

Value composite subtracting out dividend yielders greater than 1% 14.43/15.75/15.38/15.81

Value composite subtracting out all dividend paying stocks 12.31/13.29/15.15/15.56



"We ran two estimates with real historical tax rates at the lowest and highest tax brackets, and found that the benefit of avoiding dividend stocks ranged from an after tax bump of 0.3 to over 3 percentage points PER YEAR"


Mebane Faber did this in collaboration with Alpha Architect (Wesley Gray). It wouldn't surprise me, if you see an ETF coming out based on this.


In VTI (Vanguard's total US stock market index fund), there are 3615 stocks. The stock that is #2000 in size, with #1 being the largest, is LGI Homes Inc. LGI Homes Inc. has a market cap of $696 million. That would be a stock that an individual investor could trade. It would be interesting to see the results using 50 stocks. You could DIY possibly.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by squirm » Fri Dec 09, 2016 3:15 pm

The problem with buying stocks that don't post dividends is in times like this you'll miss out on appreciation. I've never seen a time like this where all I ever hear about is buying divided stocks. They're like the Janus momo stocks back in the late 90's. I'd stay in them.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Park » Fri Dec 09, 2016 3:33 pm

http://mebfaber.com/2016/03/10/what-you ... nd-stocks/

Mebane Faber did an earlier post with a similar analysis from 1995-2015. A cursory examination was that results are similar. For the 100 stock analysis, a quick survey suggests they are better. That wouldn't surprise me. Dividends are less frequent and smaller nowadays, compared to 1974.

He also shows an analysis of S&P500 stocks from 1972-2012. For dividend paying socks, $100 at the beginning grew to $3,103 at the end. For nondividend paying stocks, $100 grew to $193.

Now that's pretax return. I suspect that posttax return would show a smaller difference.

Nevertheless, a message there might be that if you're going to avoid dividends stocks, compensate for that with a value tilt using nondividend criteria.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Wagnerjb » Fri Dec 09, 2016 4:14 pm

Park wrote: Nevertheless, a message there might be that if you're going to avoid dividends stocks, compensate for that with a value tilt using nondividend criteria.
An easy way to accomplish this is to hold value stocks in your 401k or IRA. Another way would be to work to avoid a growth tilt in your individual stock (taxable) portfolio. Just take a look at the Vanguard Value index fund annual report and look at the list of companies the fund owns. Those with no dividend are marked with an asterisk....making the task very simple.

A little more effort is required if you want to have a diversified individual stock portfolio, with a low dividend yield and no growth tilt. Buying the no-dividend companies from the Value index list won't give you a very diversified portfolio so you will want to use another search tool to narrow down companies by low dividend yield. The bottom line is that I am convinced that you can build an individual stock portfolio that is:

a) highly tax efficient, with a dividend yield between 0.50% and 0.75%
b) reasonably well diversified
c) without a pronounced growth tilt


Best wishes.
Andy

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Re: What Can One Do To Decrease Dividend Taxes?

Post by sergio » Fri Dec 09, 2016 4:33 pm

Park wrote:Dividend tax can be as high as 33% (California). And unlike cap gains, there is no deferral; forced income results in forced taxation. If one considers an investment to be a product with a positive expected return after costs, inflation and taxes, it's debatable whether dividends meet that definition, with a tax rate of 33%

What can one do?

1)Use tax advantaged accounts

2)Buy funds with low dividends. This will tend to be small and growth funds.

3)Use synthetic ETFs. These are commonly used outside the USA (Europe I think). No taxes are payable, until the ETF is sold.

4)Buy individual stocks with low dividends. One could time the selling of those stocks with dividends dates, so as to avoid the dividend.

Comments?
Make less money -> Lower tax bracket -> Lower (or even no!) taxes on dividends -> BIG PROFITS

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Re: What Can One Do To Decrease Dividend Taxes?

Post by JoinToday » Fri Dec 09, 2016 5:50 pm

Wagnerjb wrote:
JoinToday wrote: 2. AMT: 28% Federal AMT marginal rate (max) + 13.3% California tax = 41.3%. Do you need to add an additional 3.8% surtax for investment income with AGI above $250K, for a final marginal rate of 45.1%?
I cannot speak to the California rates, but I don't think your AMT rate on capital gains will be 28%. I assume the dividend is qualified. If so, then you will pay something like this:

Lower income range: 15% regular + 6.5% AMT = 21.5%
Middle income range: 15% regular + 3.8% surtax + 6.5% AMT = 25.3%
Higher income range: 15% regular + 3.8% surtax + 7% AMT = 25.8%
Very high income range: 20% regular + 3.8% surtax + 7% AMT = 30.8%


Best wishes.
Thanks Andy, I stand corrected. AMT tax rates affects regular income (and IRA distributions I assume), with lower rates for capital gains (as you posted). Add 9.3% / 10.3% / 11.3% etc as needed (CA tax rates) to your numbers above to arrive at the total marginal tax rate.
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Re: What Can One Do To Decrease Dividend Taxes?

Post by grabiner » Fri Dec 09, 2016 10:00 pm

Quark wrote:
grabiner wrote:
livesoft wrote:Put muni bond funds in your taxable accounts and dividend-paying stocks in tax-advantaged.
The OP is in California, which makes this a particularly good strategy, as CA muni bonds are exempt from CA as well as federal tax. My preferred muni strategy, if all your bonds are in the taxable account, is to hold 50% CA Long-Term Tax-Exempt and 50% Limited-Term Tax-Exempt, so that you get an intermediate duration with half your bonds in CA but more than half your bond income exempt from CA tax.
This would seem to defer the problem, to the extent tax-advantaged accounts are not Roth. OP will have to pay tax when withdrawing from an tIRA or 401(k).
But for this purpose, it is irrelevant what you put in the account. If you retire at a 30% combined federal and state tax rate, the IRS and state own 30% of your IRA, regardless of what you hold there. In particular, there is no advantage to holding a tax-efficient fund in a traditional IRA and a less-efficent fund in a Roth IRA.

The fraction of your taxable account which will be lost to taxes does depend on what you hold there. (There is a tax cost for munis, which I estimate to be 1/3 of the yield; this is the reduced yield you get by holding munis rather than corporate bonds of comparable risk.)
It becomes an issue of OP's current tax rates, future tax rate, Roth conversion issues, the time value of money and the relative interest rates of the munis and bonds currently held in tax-advantaged accounts.
And at current rates, the tax cost of holding CA munis is less than the tax cost of holding stocks in CA, which is why I recommend this strategy. The tax advantage is even greater if you owe the ACA surtax or pay 20% federal tax on capital gains in the top bracket, since munis are exempt from both of these.
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Re: What Can One Do To Decrease Dividend Taxes?

Post by davidsorensen32 » Fri Dec 09, 2016 10:06 pm

This is my strategy :sharebeer

grabiner wrote:
livesoft wrote:Put muni bond funds in your taxable accounts and dividend-paying stocks in tax-advantaged.
The OP is in California, which makes this a particularly good strategy, as CA muni bonds are exempt from CA as well as federal tax. My preferred muni strategy, if all your bonds are in the taxable account, is to hold 50% CA Long-Term Tax-Exempt and 50% Limited-Term Tax-Exempt, so that you get an intermediate duration with half your bonds in CA but more than half your bond income exempt from CA tax.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Toons » Fri Dec 09, 2016 10:20 pm

I get dividends
I pay taxes
It is part of investing .
Better than not making additional income,,and
not paying taxes :happy
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"One does not accumulate but eliminate. It is not daily increase but daily decrease. The height of cultivation always runs to simplicity" –Bruce Lee

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Re: What Can One Do To Decrease Dividend Taxes?

Post by squirm » Fri Dec 09, 2016 11:20 pm

davidsorensen32 wrote:This is my strategy :sharebeer

grabiner wrote:
livesoft wrote:Put muni bond funds in your taxable accounts and dividend-paying stocks in tax-advantaged.
The OP is in California, which makes this a particularly good strategy, as CA muni bonds are exempt from CA as well as federal tax. My preferred muni strategy, if all your bonds are in the taxable account, is to hold 50% CA Long-Term Tax-Exempt and 50% Limited-Term Tax-Exempt, so that you get an intermediate duration with half your bonds in CA but more than half your bond income exempt from CA tax.
I'd rather have individual muni bonds, at least you'll get your principle back with interest if rates keep rising.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by FillorKill » Sat Dec 10, 2016 10:12 am

Wagnerjb wrote:The idea of selling before each dividend is a poor one. First of all, you will generate a fair amount of cost in commissions and the bid-asked spread, most likely more cost than the tax cost of the dividend. More importantly, you will trigger capital gains tax prematurely.
This can only be a reasonable consideration in highly specialized circumstances. I have more than what I consider a lifetime supply of loss carryforwards. I expect to die with my taxable account intact. Additionally, the counterpoint to the step-up in basis upon death is the fact that unused loss carryforwards are sacrificed. For these reasons I have traded-around dividends at times.

Consider the following scenario: say I have a 1000 share position in VOO and my basis is 50% of FMV. On 12/21 I enter a conditional order and sell VOO and buy IVV, this is the ex-date for IVV so I avoid the distribution there and I also avoid the distribution from VOO (ex-date 12/22). I don't pay commissions to trade etfs. I have to pay the second leg of the spread on VOO so assume .01/share for that and I have to pay the first leg of the spread on IVV for which I'll also assume .01. I need less than 1000 shares of IVV to match market value of VOO but to keep it easy let's say I pay $20 in spread for the trade.

An additional potential expense that is hard to precisely quantify is that IVV is a higher volume instrument so it is achieving price discovery slightly quicker than VOO so I expect that trading one from the other will have a small additional cost. This could just as easily work in your favor but I assume for trading purposes that it will not.

So, what have I done? I 'sold' 100K of presumably unusable loss carryforwards and paid (my guesstimate) maybe $40 in spread and price discovery penalty to avoid a dividend payment of $1210 (estimated). While you would never consider doing this without the excessive loss carryforwards to work with, the outcome does have a couple of other positive features: 1) resetting the basis means that if things change and you do need to sell some/all of this position at a future date the tax cost will be reduced i.e. you would recover some of the value of the forfeited loss carryforwards 2) You now have a realistic chance of TLH this position again. When you needed a greater than 50% decline in market price to even consider this prior to the trade, now chances that you can re-acquire some of the forfeited loss carryforward (in order to do more of this while you are in such a high dividend tax situation) 3) with the reset basis it costs you far less of your existing pool of loss carryforwards do this with the same position in the future should you be so inclined.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Pajamas » Sat Dec 10, 2016 3:45 pm

Focus on securities that pay qualified dividends vs. equities with dividends that aren't qualified, such as REITs.

https://www.irs.gov/publications/p17/ch ... 1000171584

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Quark » Sat Dec 10, 2016 3:54 pm

squirm wrote:I'd rather have individual muni bonds, at least you'll get your principle back with interest if rates keep rising.
General advice is that the maturity of your bonds should match your horizon.

If you have a specific target date, the remaining maturity of individual bonds will decrease over time. If you prefer funds, exchange longer term for shorter term funds to simulate the same effect.

If you're saving for retirement or other long term goals, you'd roll over individual bonds. This is essentially the same as owning a fund.

The real issue is whether maturity declines over time, not individual bonds v. funds.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by Park » Mon Dec 12, 2016 1:48 pm

As mentioned previously, the smaller you go, the lower the dividends tend to me.

RZV small cap value, average market cap, 779 million, 12 month yield 0.56%.

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Re: What Can One Do To Decrease Dividend Taxes?

Post by randomguy » Mon Dec 12, 2016 2:39 pm

Quark wrote:
squirm wrote:I'd rather have individual muni bonds, at least you'll get your principle back with interest if rates keep rising.
General advice is that the maturity of your bonds should match your horizon.

If you have a specific target date, the remaining maturity of individual bonds will decrease over time. If you prefer funds, exchange longer term for shorter term funds to simulate the same effect.

If you're saving for retirement or other long term goals, you'd roll over individual bonds. This is essentially the same as owning a fund.

The real issue is whether maturity declines over time, not individual bonds v. funds.
People make arguments about bond funds all the time. It is questionable. You ignore market fluctuations but you end up with pretty much the same amount of money. The big concern about buying individual bonds is your ability to buy enough of them (diversification) and not paying too much (spreads, commissions,...) for them.

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