I think you know by now that I am not a tax professional. I’m just a mom with a business degree and a desire to change the world one financially-fit family at a time. It shouldn’t come as a shocker that I make mistakes. Yes, even money errors. And I’m a financial blogger. Oh the shame.
I want to share my latest tax mistake with you so that you can avoid making the same blunder. You’d never even consider goofing up this way, I’m sure.
Our College Savings Investments
I’ve been pretty vocal about the importance of having a plan for your children’s college (or future) savings. I’ve even shared our own college savings story. Our savings plan involves using an UTMA mutual fund portfolio to save for our children.
During tax season I keep an eye out for all of my incoming tax documents, frequently printing them off when delivery is slow. This year I must’ve mistakenly missed some 1099s.
I filed our taxes and happily checked them off my to do list.
The Error of my Ways
Can you see where I’m heading? Three of the five kids’ funds declared dividends last year. Uh oh! That was a dumb mistake on my part. You know what’s even worse? They declared capital gains distributions too!
An investor is taxed on capital gains when they sell an investment. Capital gains are the increases in the investment above the amount that they’ve put in (the cost basis). Essentially, the profit from an investment.
Capital gains can also occur when equities within the fund are sold off by the manager. This typically occurs during the last quarter of the year as the fund’s holdings are adjusted. The proceeds are distributed as capital gains to shareholders, who are on the hook for the associated tax.
Do all mutual funds get hit with capital gains distributions?
Some funds engage in more equity turnover, and some less. Not all funds are subject to capital gains taxes outside of an investor’s sale. You’ll want to keep an eye on your investments to know which will be taxed each year.
Index funds, for example, will have less distributions because they have low portfolio turnover. There are also special rules for retirement accounts.
Tax Lessons Learned
- Don’t toss any paperwork around tax time! Tax documents are also available from the company’s website. This is what I typically use for preparing taxes.
- Don’t assume that there isn’t a 1099 coming. We all know what assuming does, don’t we? Hee-haw.
- Make a spreadsheet for next year’s tax preparation. It’s good to be in a position where our investments and income sources introduce a bit of complexity into the equation. I can’t fly by the seat of my pants for tax prep any longer. Time for a new spreadsheet to keep track of income and deductions. Oh goodie!
- I love Turbo Tax! Chances are, if you prepare your own taxes, you’re using Turbo Tax. If not, you need to try it out. This online tax prep software makes it incredibly easy to amend a return if you realize that you’ve made an error. Easy enough that I actually enjoy amending a return. I know, I’m a crazy loon.
Don’t be a dumb dumb like me and mistakenly assume that you won’t be receiving a 1099 for an investment. It’s always better to take the time to check!
Have you ever made a tax mistake?
Bonus: My Frugal Home has a great little tax prep checklist. I’ll be double-checking against this list for next year’s preparation.