FIN 352 - Professor Dow Taxes and Investing (Draft) The Lecture Basic Investing Principles: Be diversified. Hold a portfolio with the appropriate level of risk. Asset allocation determines risk and expected
return. Tax laws can change the relative returns of different assets. This might affect how you invest. Three ways taxes affect investing. Some types of income are taxed differently.
Some assets are taxed differently. Some accounts are taxed differently. Some types of income are taxed differently Capital Taxes
gains vs. ordinary income. on dividends. Short-term gains. vs. long-term capital Some assets are taxed differently Mutual
Funds Municipal Treasury Bonds Bonds Some assets are taxed differently Mutual Funds:
Mutual funds that realize capital gains through selling shares must distribute these gains (typically towards the end of the year). Shareholders must pay taxes on these gains even if they did not sell any shares and the distributions are reinvested in the fund. Some assets are taxed differently Municipal
Bonds: Income from Municipal Bonds are exempt from Federal taxes and from state taxes if issued by that state. Compare with similar corporate bonds by comparing after-tax yields. Best for high-income (high-tax-rate) investors. Some assets are taxed differently Treasury
Bonds: Interest earned on Treasury bonds is exempt from state and local taxes. Taxes still owed on capital gains. Interest is not exempt from Federal taxes. Some accounts are taxed differently Retirement
Accounts 401k Traditional IRA Roth IRA Other retirement accounts Health and Education Accounts Some accounts are taxed differently 401(k)
Accounts are set up with employer. Employer may contribute matching funds. Individuals can contribute to their account each year with pre-tax money. Taxes are not paid until the money is withdrawn. Individually directed and can invest in most types of assets, although options may be limited by employer. Limits on contributions plus various other restrictions. Some accounts are taxed differently
Traditional IRA: Individuals can contribute to their account each year with before-tax money. Taxes are not paid until the money is withdrawn. Individually directed and can invest in most types of assets. Limits on contributions along with various other restrictions.
Some accounts are taxed differently Roth IRA: Contributions are made with after-tax dollars. Income is not taxed. Individually directed and can invest in most types of assets.
Limits on contributions along with various other restrictions. Some accounts are taxed differently Roth vs. Traditional: Roth is taxed now while a traditional IRA is taxed at retirement. Since tax rates at retirement are usually
lower than while working, this is an advantage for the traditional IRA. Some accounts are taxed differently Roth vs. Traditional: However, if you contribute the maximum, the Roth may be more valuable since the limit is in post-tax
dollars. There are other differences that can be important. Some accounts are taxed differently The Asset Location Decision: Determining what assets go in which
account is called the asset location decision. Ideally, assets generating income subject to the highest tax rate should go in tax-sheltered accounts. Conclusion Tax laws can significantly affect your investment returns. However,
the rules can be complicated and can change each year, so be sure to do your homework. Links
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