30-Minute Money Solutions: A Step-by-Step Guide to Managing Your Finances

Chapter 27. Manage Your Portfolio for Tax Efficiency

SOme things in life add insult to injury.

That's precisely what my friend experienced when he purchased a China-focused mutual fund, Matthews China MCHFX, in early 2008. Although Matthews is a fine firm that specializes in investing in Asia, I tried to dissuade him. I didn't have any special premonition about China or its prospects, but I suggested that he'd be better off with a diversified emerging markets fund with the latitude to invest in China as well as the ability to get out if the going got tough.

Lo and behold, his fund dropped 50 percent in 2008. And because Matthews China saw a rash of investors yanking out their shares in the wake of the losses, the fund's assets dropped by more than two thirds, forcing management to sell some of its long-held positions. As a result, the fund ended up making a capital gains distribution. In the end, my friend ended up owing taxes on his investment, even though his account shriveled from $10,000 to $5,000 over the course of a year and even though he still owned it.

The moral of the story is that taxes can cost you, and that's true not just in good markets but in bad ones, too. That may sound like a "heads they win, tails you lose" situation, but it doesn't have to be. In fact, taxes are one of the few factors in investing over which you can actually exert some control. While the market is unpredictable and its direction is ultimately out of your control, working to limit taxes in your ...