What about mutual fund and taxes?

Question

What does this mean? UI'm in high school and can't understand. How do you pay the tax, and how to government know whether or not I'm investing? IF I invest in mutual fund will the gov. tKE THE MONEY OR do i need to consult a CPA?


How will you pay the annual state and federal income taxes that will be due?

If a fund returned a steady 4.5% annually, you would have invested $200,000 and your fund would be worth $327,831. Your gain would be $127,831 before taxes. Some of the tax would be due each year and the balance of the tax would be due when then shares are sold.

Answer 1

The government knows what you are investing and what your profit on that investment is because the mutual fund reports the information to the government each year.

If you have an income (e.g., profit on your investment) you (or your parents) have to file a return with the government (IRS) and report the income. If your income is large enough you then have to pay taxes.

If you don't file a return, someone -- probably your folks -- might have to pay a fine or even go to jail.

Answer 2

Your mutual fund earns income. Each year, that income is reported to you and the IRS. You pay taxes on the income. You will include this income on your tax return on Schedule B. If your income from the mutual fund is more than $850, you will have to file a tax return. If it is less than that amount, but you have other income from a job, you may have to file a tax return.

You will pay any taxes due when you file your tax return. The mutual fund will not forward the taxes to the government.

The annual income from the fund is re-invested in the fund, and you do not pay taxes on that again. However, when you sell the fund, if the share price has risen from the time you purchased it, you may have a gain, and that gain will be taxed. The mutual fund company will send you a statement showing how much of the money you received was gain. You will pay tax on that, reporting it on Schedule D of your tax return.

Answer 3

wow... that's a whole lot of questions in one! :) Let me try and break it down some.

First, the government knows you're investing because, by law, the companies you use to invest are required to report to the government the gross amounts of your buys, sells, dividends paid and interest paid. Individual investors receive a "1099" form from the investment company. On the 1099, it will tell you the dividends and interest paid.

For tax purposes, you have to report dividends, interest, and capital gains. Capital gains are amount of money you make, IN THAT YEAR, from your investment activities (for now, outside of dividends and interest) So, if you make a $10,000 investment by buying a mutual fund a at $10/share, and sell it at $12/share you would make $2,000. For tax purposes, you would have to report that $2,000 plus any dividends and interest. If you hold an investment at least 366 days, your capital gains rate will be lower than if you hold it less than a year. If you hold it for less than a year, you pay capital gains like it is ordinary income. Longer than a year, usually, it's much lower. The government does not "withold" money on capital gains, you have to pay it. If you have a CPA, they can do it really easily. If you don't, the tax forms can help you figure it out.

You pay annual state and federal taxes as part of your tax returns. In each of the tax forms there is a place to report the capital gains. You then pay the tax based on the total (with the exception of long term gains.

In your example, the only way you would get that kind of return on 4.5% would be if you had held the investment about 10.2 years. How the tax would break out is based on the kinds of investments and how much had been added via dividend and interest (which you would pay "as you go") and how much is straight capital gains held from the begining. Each time you pay taxes on a dividend or interest reinvestment, it increases the "basis" of the investment, i.e. the original basis is $200k.

So, for illustration, let's suggest given the return, that all but $7,831is based on dividends and investments. The rest is equally divided between dividends and interest over the ten years. So, of the $120,000 of gain, the investment paid $6,000 of Dividends and $6,000 of interest per year (remember hypothetically). If that was the case, you would have been reporting $12,000 of "gains" per year. Since you have held the investment over a year, you would pay something smaller, like 18% for the gain (or $2,160) per year.
That would be for nine years or a total of $19,440 total tax. On the 10th year, when you sell it, you would have the $12,000 of new interest (keep in mind, it would not be quite like this because I'm trying to keep it simple for illustration) and when you sell the investment, you would not have a normal gain, i.e. $327,831 - $200,000 = $127,831, but instead, all of the years yo've been paying for the dividends and interested would be added to the basis, such that (for illustrations) your NEW basis would be $320,000 so, $327,831 - $320,000 = $7,831. You would pay the normal $2,000 of taxes for dividends and interest, and you would pay tax on the $7,831.

That would be very different than paying tax on the $127,831 or $23,009.

Now, the reason it acts like this is because you're getting dividends and interest re-invested every year. IF, however, you bought a mutual fund that only had appreciation, i.e. value increases because the stock price increreases and after 10.2 years you had the same numbers then you would pay all the capital gains at the end (the $23,009 or whatever it is). Keep in mind, this would NOT be treated as ordinary income so it would not be as relevant to how much you made.

I hope that sheds some light on how things work.

Take Care.

Answer 4

The mutual fund will send you a form each year showing what taxable income you have for the year from the fund. It also reports this to the IRS, so that's how the IRS knows. There will very possibly be dividends and capital gains showing on the statement. You file a tax return reporting these amounts along with any other income you have. Dividends go directly onto a form 1040, and capital gains go on a schedule D and eventually work their way onto the 1040 also.

When you sell the shares, you report any overall gain or loss on the shares of the fund on a schedule D.

Answer 5

mutual funds pay their gains to owners in two forms; dividends and capital gains (when you sell).

each year, each fund that you own sends you a statement detailing any and all dividends paid during the year, with data about their tax status [qualifying for 15% rate, long term gain, etc.]. They also report this data to the IRS [and including your tax id number].

annually, you are required to include the dividend figures on your income tax return.

**
the tax on the capital gain from the eventual sale is reported on schedule D to IRS form 1040 for the year in which you sell the mutual fund shares. The fund will report the gross amount of the sale to the IRS and you are responsible for figuring out your cost and putting it onto the schedule.


does this help?

Answer 6

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Answer 7

You pay taxes on capital gains and dividends each year unless the mutual fund is in a retirement account such as an IRA or 401(k).