Mutual funds

Chapter 39
Mutual funds

Useful Items

You may want to see:


  •  550 Investment Income and Expenses

Tax Treatment of Distributions

A distribution you receive from a mutual fund may be an ordinary dividend, a qualified dividend, a capital gain distribution, an exempt-interest dividend, or a nondividend distribution. The fund will send you a Form 1099-DIV or similar statement telling you the kind of distribution you received. This section discusses the tax treatment of each kind of distribution, describes how to treat reinvested distributions, and explains how to report distributions on your return.

Community property states. If you and your spouse live in a community property state and receive a distribution that is community income, one-half of the distribution is considered received by each of you. If you file separate returns, each of you must generally report one-half of any taxable distribution. For more information about community property, see Publication 555, Community Property.

If the distribution is not considered community income under state law and you and your spouse file separate returns, each of you must report your separate taxable distributions.

Share certificate in two or more names. If two or more persons, such as you and your spouse, hold shares as joint tenants, tenants by the entirety, or tenants in common, distributions on those shares are considered received by each of you to the extent provided by local law.

Tax-exempt mutual fund. Distributions from a tax-exempt mutual fund (one that invests primarily in tax-exempt securities) may consist of ordinary dividends, capital gain distributions, undistributed capital gains, or return of capital like any other mutual fund. These distributions generally are treated the same as distributions from a regular mutual fund. Distributions designated as exempt-interest dividends are not taxable. (See Exempt-Interest Dividends, later.)

All other distributions generally follow the same rules as a regular mutual fund. Regardless of what type of mutual fund you have (whether regular or tax-exempt), when you dispose of your shares (sell, exchange, or redeem), you usually will have a taxable gain or a deductible loss to report.

For more information on figuring taxable gains and losses see Sales, Exchanges, and Redemptions, later. Also see chapter 16, Reporting Gains and Losses, for further information.

Ordinary Dividends

Ordinary (taxable) dividends are the most common type of distribution from a mutual fund. They are paid out of earnings and profits and are ordinary income to you. This means they are not capital gains. You can assume that any dividend you receive on common or preferred stock is an ordinary dividend unless the mutual fund tells you otherwise. Ordinary dividends will be reported in box 1a of the Form 1099-DIV or on a similar statement you receive from the mutual fund.

Qualified Dividends

Qualified dividends are ordinary dividends subject to the same 0%, 15%, or 20% maximum tax rate that applies to net capital gain. They will be shown in box 1b of Form 1099-DIV you receive.

Qualified dividends are subject to the 20% rate if your regular marginal tax rate is 39.6%. If your regular marginal tax rate is 25%, 28%, or 33%, then the tax rate on qualified dividends is 15%. If your regular marginal tax rate is either 10% or 15%, then qualified dividends are subject to a 0% tax rate.

To qualify for the 0%, 15%, or 20% maximum rate, all of the following requirements must be met:

  1. The dividends must have been paid by a U.S. corporation or a qualified foreign corporation. See chapter 1 of Publication 550 for the definition of a qualified foreign corporation.
  2. The dividends are not of the type excluded by law from the definition of a qualified dividend. See chapter 1 of Publication 550 for a list of these types of dividends.
  3. You must meet the holding period requirement (discussed next).

Holding Period

You must have held the stock for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date. The ex-dividend date is the first date following the declaration of a dividend on which the buyer of a stock is not entitled to receive the next dividend payment. When counting the number of days you held the stock, include the day you disposed of the stock, but not the day you acquired it. See chapter 1 of Publication 550 for more information about qualified dividends.

Capital Gain Distributions

Capital gain distributions (also called capital gain dividends) are paid to you or credited to your account by mutual funds. They will be shown in box 2a of the Form 1099-DIV (or similar statement) you receive from the mutual fund.

Report capital gain distributions as long-term capital gains, regardless of how long you owned your shares in the mutual fund.