Capital Gains, Losses, Sale of Home:
Mutual Funds (Costs, Distributions, etc.)
This is archived information that pertains only to the 2005 Tax Year. If you
are looking for information for the current tax year, go to the Tax Prep Help Area.
I have both purchased and sold shares in a money-market mutual fund.
The fund is managed so the share price is constant. All gain is reported as
dividends. Do I have to report the sale of these shares?
Yes, you report the sale of your shares on Form 1040, Schedule D (PDF), Capital Gains and Losses. Generally, whenever
you sell, exchange, or otherwise dispose of a capital asset, you report it
on Schedule D.
If the share price were constant, you would have neither a gain nor a
loss when you sell shares because you are selling the shares for the same
price you purchased them.
If you actually owned shares that were later sold, the fund or the broker
should have issued a Form 1099-B There is no requirement with that form that
there be gain or loss on the sale, only a sale or exchange of an investment
asset and sales proceeds.
How do return of principal payments affect my cost basis when I
sell mutual funds?
A return of principal (or return of capital) reduces your basis in your
mutual fund shares. Unlike a dividend or a capital gain distribution, a return
of capital is a return of part of your investment (cost). However, basis cannot
be reduced below zero. Once your basis reaches zero, any return of principal
is capital gain and must be reported on Form 1040 Schedule D (PDF), Capital
Gains and Losses.
How do I calculate the average basis for the sale of mutual fund
shares?
In order to figure your gain or loss using an average basis, you must have
acquired the shares at various times and prices and have left them on deposit
in a managed account.
There are two average basis methods:
- Single-category method, and
- Double-category method.
Single-category method. First, add up the cost of all the shares you own
in the mutual fund. Divide that result by the total number of shares you own.
This gives you your average per share. Multiply that number by the number
of shares sold.
Double-category method. First, divide your shares into two categories,
long-term and short-term. Then use the steps above to get an average basis
for each category. The average basis for that category is then the basis of
each share in the sale from that category.
Once you elect to use an average basis method, you must continue to use
it for all accounts in the same fund. You must clearly identify on your tax
return the average basis method that you have elected to use. You do this
identification by including "AVGB" in column (a) of Form 1040, Schedule D (PDF) .
Refer to Publication 564 , Mutual Fund Distributions, Sales,
Exchanges and Redemptions .
If I used an average basis method for shares of one mutual fund
I sold, do I have to use it for all mutual funds I sell?
No, you may use a different method, as long as you have not used an average
basis method for that fund previously. Once you have elected to use an average
basis method to compute the gain or loss on shares in a mutual fund, you must
use that same method for the sale of shares from any account in that same
fund.
How do I calculate the average cost method of a mutual fund if the
fund price splits?
If your mutual fund splits, or adjusts its price, it is treated like a
stock split. Your total basis doesn't change after the split, but since you
now own more shares without paying any more money, your per-share basis will
decrease. To calculate your per-share basis, divide the total cost that you
have invested in the fund (minus any shares previously sold) by the current
number of shares that you hold.
I received a 1099-DIV showing a capital gain. Why do I have to report
capital gains from my mutual funds if I never sold any shares?
A mutual fund is a regulated investment company that pools funds of investors
allowing them to take advantage of a diversity of investments and professional
asset management. You own shares in the fund, but the fund owns assets such
as shares of stock, corporate bonds, government obligations, etc. One of the
ways the fund makes money for its investors is to sell these assets at a gain.
If the asset was held by the mutual fund for more than one year, the nature
of the income is capital gain, which gets passed on to you. These are called
capital gain distributions, which are distinguished on Form 1099-DIV (PDF) , from income that is from other profits, called ordinary
dividends.
Capital gains distribution are taxed as long term capital gains regardless
of how long you have owned the shares in the mutual fund. If your capital
gains distribution is automatically reinvested, the reinvested amount is the
basis of the additional shares purchased.
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