record $150 billion in distributions, including capital gains and dividend income. That caused a nasty tax bite for investors who had fund investments outside of a tax-deferred retirement plan like a 401 (k) or IRA.
To keep taxes and expense ratios down, however, an increasing number of balanced funds are trying to hold down trading and minimize distributions, much like tax-efficient index funds. Other balanced funds avoid realizing capital gains in the first place by never selling–taking a cue from famed billionaire investor Warren Buffett, who favors a buy-and-hold-forever strategy. Vanguard’s Tax-Managed Growth & Income Portfolio is a fund that has adopted both techniques. It offsets capital gains with losses, curtails other taxable occurrences such as dividend income and in 1997 had a turnover rate of 7%.
In the final analysis, there are two ways you can view the cost of owning mutual funds. The 1.4% you dole out for the average U.S. stock fund is an awful lot cheaper than what you’d pay if you went to get personal advice from a financial planner or stockbroker. On the other hand, mutual fund expenses could no doubt be cheaper if certain charges, such as 12b-1 fees, were either eliminated or reduced.
One last word of caution: you shouldn’t pick a fund, or even a fund type, simply because it boasts the lowest annual expense ratio. As with any investment, make sure you also consider the fund’s performance, size and objective–along with your own investment goal, time horizon and tolerance for risk.
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