Vanguard LifeStrategy Funds tax distributions

main article: Vanguard LifeStrategy Funds

The Vanguard LifeStrategy Funds are questionable candidates for placement in taxable accounts. The funds are often recommended as a simple one fund solution for implementing a diversified portfolio consisting of the following asset class funds: total market domestic stock, international stock, and investment grade bond index funds; investment grade short term bond fund; along with an allocation into the Vanguard Asset Allocation fund, which provides access to a degree of  tactical asset allocation. LifeStrategy Funds are usually singled out for use in tax deferred (employer provided or individual Traditional IRA accounts) or tax-free (Roth IRA) accounts. The funds are also common investment options in many 529 College Savings Plans.

In contrast to the Vanguard series of similar one fund diversified portfolios, target retirement funds, which utilize a gradual shifting strategic asset allocation over time, the LifeStrategy funds have a relatively fixed target asset allocation. Vanguard considers the LifeStrategy funds to be target risk funds, in contrast to target date target retirement funds.

Distributions
The following tables provide long term data on each LifeStrategy fund's history of both dividend and capital gains distributions. As fund of funds, a LifeStrategy fund's taxable distributions come from two sources:
 * 1) Income and gains distributions received from the underlying funds.
 * 2) The sales which the Lifestrategy fund makes when rebalancing the fund.

LifeStrategy Income Fund
The LifeStrategy Income Fund invests in other Vanguard mutual funds according to a fixed formula that over time should reflect an allocation of approximately 60% of the Fund’s assets to bonds, 20% to short-term fixed income investments, and 20% to common stocks (a 20% equity/80% bond allocation.) The actual allocation will vary somewhat due to the  changing tactical asset allocation of the Asset Allocation Fund. The percentages of the Fund’s assets allocated to each of the underlying funds are, according to the most recent prospectus:

Note:
 * For current tax attributes and distributions see Vanguard

LifeStrategy Conservative Growth Fund
The LifeStrategy Conservative Growth Fund invests in other Vanguard mutual funds according to a fixed formula that over time should reflect an allocation of approximately 40% of the Fund’s assets to bonds, 20% to short-term fixed income investments, and 40% to common stocks (a 40% equity/60% bond allocation). The actual allocation will vary somewhat due to the changing tactical asset allocation of the Asset Allocation Fund. The percentages of the Fund’s assets allocated to each of the underlying funds are, according to the most recent prospectus:

Note:
 * For current tax attributes and distributions see Vanguard

LifeStrategy Moderate Growth Fund
The LifeStrategy Moderate Growth Fund invests in other Vanguard mutual funds according to a fixed formula that over time should reflect an allocation of approximately 60% of the Fund’s assets to common stocks and 40% to bonds. The actual allocation will vary somewhat due to the changing tactical asset allocation of the Asset Allocation Fund. The percentages of the Fund’s assets allocated to each of the underlying funds are, according to the most recent prospectus:

Note:
 * For current tax attributes and distributions see Vanguard

LifeStrategy Growth Fund
The LifeStrategy Growth Fund invests in other Vanguard mutual funds according to a fixed formula that over time should reflect an allocation of approximately 80% of the Fund’s assets to common stocks and 20% to bonds. The actual allocation will vary somewhat due to the changing tactical asset allocation of the Asset Allocation Fund. The percentages of the Fund’s assets allocated to each of the underlying funds are, according to the most recent prospectus:

Note:
 * For current tax attributes and distributions see Vanguard

Equity capital gains
Vanguard LifeStrategy Funds can distribute taxable gains if the underlying funds distribute gains and if the fund itself realizes gains when rebalancing or retargeting a fund's strategic asset allocation (see tab 5, CG source in the referenced table below). Historically, the funds have realized substantive gains when they have not had the benefit of loss carryforwards (1994-2001, see tab 6, Loss carryforwards in the referenced table below) and when the underlying funds it invests in have not had loss carryforwards (particularly applicable to the distribution history of the  Vanguard Asset Allocation Fund). The funds' two underlying equity funds are very tax efficient.


 * Vanguard Total Stock Market Index Fund
 * Vanguard Total International Stock Index Fund.

Equity dividends
LifeStrategy Funds pass along the tax-preferenced qualified dividends distributed by the underlying equity index funds. The Total Market Index Fund distributes 100% qualified dividends; International index funds distribute roughly 75% qualified dividends; the Asset Allocation fund distributes roughly 75% qualified dividends. The actual portion of the LifeStrategy Fund dividend that is qualified depends on the strategic equity allocation of the fund.

Foreign tax credit
As fund of funds, LifeStrategy Funds are not eligible for the foreign tax credit

Bond capital gains
Vanguard LifeStrategy Funds distribute capital gains distributions received from underlying bond funds. Currently these funds include, for all funds, the Vanguard Total Bond Market Index II Fund (since 2009; prior to 2009 the funds invested in the Vanguard Total Bond Market Fund) and for the Income and Conservative Growth funds, the Vanguard Short Term Investment Grade Bond Fund. These bond funds occasionally distribute relatively small short term and long term gains. Future received gains may be offset by any loss carryforwards the fund possesses.

Bond dividends
Vanguard LifeStrategy Funds receive and distribute taxable dividend income from underlying bond funds. This income is taxable at marginal income tax rates. The funds receive a modest tax preference for dividends received from treasury securities, which are exempt from state and local income tax. The bond dividend yield, and treasury bond tax preference of a given LifeStrategy Fund is dependent on the fund's strategic asset allocation.

Tax analysis
The following tables examine the tax consequences of holding the Vanguard LifeStrategy Funds in a taxable account. The tables include a 5% state tax rate (which of course may vary according to state). The Funds' current fundamentals are more tax efficient than the historical averages suggest. These fundamental factors include the following.


 * 1) Current fund dividend and interest yields are somewhat lower than the historical average yields.
 * 2) The underlying equity based funds, as well as the funds themselves, possess tax loss carryforwards that should offset gains realizations through 2017. Any losses realized by the funds' (and underlying funds) through 2017 will serve to lengthen the period of gain offsets.

The table examines tax costs under the current tax regime, using each fund's average non-qualified dividend, average qualified dividend, average government bond dividend, and average capital gain. The table also provides results for a higher tax regime, one with no tax-preferenced qualified dividends and higher marginal and capital gains tax rates. Keep in mind the table does not include the tax cost should one sell an investment in the fund and realize a gain.

Table 10. source:SEC Edgar Annual Reports(2003 onwards, (1994 - 2003) and SEC Edgar NSAR reports

Table 11. source:SEC Edgar Annual Reports(2003 onwards, (1994 - 2003) and SEC Edgar NSAR reports

Table 12. source:SEC Edgar Annual Reports(2003 onwards, (1994 - 2003) and SEC Edgar NSAR reports

Table 13. source:SEC Edgar Annual Reports(2003 onwards, (1994 - 2003) and SEC Edgar NSAR reports