Tax-managed fund comparison

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Vanguard offers three mutual funds which are explicitly tax-managed. However, index funds and exchange-traded funds (ETFs) are inherently tax-efficient, and are sometimes less expensive; therefore, the tax-managed mutual funds may not always be the best options even for taxable investors.

General recommendations

Vanguard Tax-Managed Small-Cap Fund and Vanguard Tax-Managed Capital Appreciation Fund are worth holding if your taxable account needs a separate large-and-mid cap or small cap fund (and, in the case of TM Capital Appreciation, you don't mind its slight growth bias, say because you have a value bias in your IRA.) Except in the top tax bracket, TM Capital Appreciation is probably not worthwhile as a substitute for a large-cap-only fund; use 500 Index.

Total Stock Market is still better than a combination of tax-managed funds, except in the top tax bracket, and even then it is just as good.

Vanguard Tax-Managed Balanced Fund has no tax advantage over the individual funds, just the simplicity; it has slightly lower expenses if your investment is less than $100,000. Even that benefit may be lost because of extra tax costs if you need to sell the fund to change your bond allocation.

Vanguard also used to have a Tax-Managed International Fund; it merged with the Developed Markets Index fund in 2014. If you previously had TM International, you should keep these shares rather than selling for a capital gain because the additional cost is trivial. The core of a taxable international portfolio could either be 80% Developed Markets and 20% Emerging Markets Index, or 100% Total International.


These comparisons are based on the total costs, including both taxes and expenses. Calculations will be done with three tax assumptions: 12%/24%/top tax brackets. In the 12% tax bracket, qualified dividends and long-term gains are taxed at 0%. In the 24% tax bracket, qualified dividends and long-term gains are taxed at 15%. In the top tax bracket, investment income is taxed at 40.8% (including the 3.8% Affordable Care Act surcharge) and qualified dividends and long-term gains are taxed at 23.8% (including the surcharge).

Your actual tax cost will be higher if you owe state taxes (add your state tax rate on the dividend yield, reduced by your federal tax rate if you itemize deductions and are not over the limit for deducting state taxes) or are in the phase-out range for some tax benefit such as the child tax credit (add 5% to all tax rates) or the personal exemption phase-out for the Alternative Minimum Tax (add 7% to all tax rates, but your overall tax on non-qualified dividends is 28%).

All calculations assume Admiral or ETF shares of the alternative funds; given the $10,000 minimum for the tax-managed funds, you should have Admiral shares, and for multiple-fund combinations, the cost of waiting for Admiral shares is trivial.

Tax-Managed Small-Cap

TM Small-Cap tracks the same index as the S&P 600 ETF, with 0.06% lower expenses; the ETF actually reports a lower yield. Neither fund is likely to distribute a capital gain. The advantage of TM Small-Cap is from its 100% qualified dividends, versus 75% assumed for the S&P 600, which offset the yield difference, and from the lower cost.

If you do not use ETFs, Small-Cap Index has an expense ratio 0.03% less than TM Small-Cap, but a higher cap range, so you need more of Small-Cap Index to get the same small-cap exposure. In addition, it has a 0.16% higher yield, which causes dividend taxes to reduce the tax savings

Fund Expense Dividends Qualified Cost in 12% bracket Cost in 24% bracket Cost in top bracket
TM Small-Cap 0.09% 1.21% all 0.09% 0.27% 0.38%
S&P 600 ETF 0.15% 1.04% 0.78% 0.18% 0.34% 0.44%
Small-Cap Index 0.06% 1.37% 1.03% 0.11% 0.30% 0.44%

Tax-Managed Capital Appreciation

TM Capital Appreciation tracks the Russell 1000 index, with 0.03% lower expenses than the ETF but a lower yield because it selects stocks to reduce dividend yields. Both funds should have 100% qualified dividends and avoid all capital gains; the tax-managed fund benefits from the lower yield.

Large-Cap Index is an alternative fund, and the alternative you would use if you do not use ETFs. It is a similar index with 0.03% lower expenses. 500 Index misses most of the mid-caps, but if you don't need mid-caps, it may be an even better deal than the tax-managed fund with 0.05% lower expenses.

Fund Expense Dividends Qualified Cost in 12% bracket Cost in 24% bracket Cost in top bracket
TM Capital Appreciation 0.09% 1.61% all 0.09% 0.33% 0.47%
Russell 1000 ETF 0.12% 1.71% all 0.12% 0.38% 0.53%
Large-Cap Index 0.06% 1.81% all 0.06% 0.33% 0.49%
500 Index 0.04% 1.85% all 0.04% 0.32% 0.48%

Tax-managed funds versus Total Stock Market

90% TM Capital Appreciation and 10% TM Small-Cap approximates the allocation of Total Stock Market. However, Total Stock Market saves 0.05% in expenses, has almost 100% qualified dividends (98% assumed, as the 94% in 2013 was the first year without 100%), should never distribute a capital gain, and eliminates your own potential capital gains from rebalancing the large-cap and small-cap funds. Total Stock Market thus comes out ahead of the TM combination except in the top bracket, and even there, you may lose the advantage of one basis point to capital gains from rebalancing.

Fund Expense Dividends Qualified Cost in 12% bracket Cost in 24% bracket Cost in top bracket
Two TM funds 0.09% 1.57% all 0.09% 0.33% 0.46%
Total Stock Market 0.04% 1.76% 1.72% 0.04% 0.30% 0.47%

Tax-Managed Balanced

TM Balanced is essentially the same as 49% TM Capital Appreciation and 51% Intermediate-Term Tax-Exempt. The expenses are 0.09% for both the balanced fund and the two individual funds (assuming Admiral shares of the municipal-bond fund with a $50,000 minimum; the expense difference is 0.05% if you have Investor shares). However, it isn't really suitable for a single-fund portfolio because it lacks international stocks. In addition, it has the usual disadvantage of a balanced fund in a taxable account: you cannot sell bonds without paying a capital gain on your stock sales. In particular, if you move to a high-tax state, you may want to sell your national municipal-bond fund and buy a fund for that state, but you will have to pay a capital-gains tax if your municipal bonds are in a balanced fund.

Total international

To get the same allocation as Total International, you need 80% Developed Markets (nee TM International), and 20% Emerging Markets. Developed Markets and Emerging Markets started to include small-caps in 2015, so there is no longer a need for the FTSE All-World Ex-US Small-Cap fund unless you want to overweight small-caps. The two-fund combination has 0.09% expenses, compared to 0.11% for Total International. If there is a cost advantage, you would not lose it to rebalancing costs, because Total International does not effectively rebalance to the 80/20 ratio; if emerging markets become 25% of the total international market, either Total International or an unrebalanced two-fund combination will be 25% emerging.

These funds are not a perfect match, as Emerging Markets Index includes China A-Shares, which causes it to have a larger weight in China than the emerging portion of Total International.