The dividends and interest earned by a fund on its investment is the fund’s income. Many of these equity mutual funds distribute income quarterly. A fund selling an investment security for a higher price than originally paid, has a gain. A fund selling an investment security for a lower price than originally paid, has a loss. If the investment security is held by the mutual fund for more than one year, the gain or loss will be a long-term capital gain or loss. If the investment security is held by the fund for less than one year, the gain or loss will be a short-term capital gain. Mutual funds gains and losses are netted together and when the fund has a net gain, that gain is usually distributed to the shareholder once a year.

The current 15% tax rate on capital gains and dividends that Congress approved will expire after 2008.  At that time, dividends will be taxed at ordinary income tax rates and capital gains at 20%.  However, legislation is being considered to extend these contribution limits. Another bill in legislation is targeted to encourage personal savings in mutual funds by deferring taxation on automatically reinvested capital gains until the shares are sold.  Currently capital gains are taxed each year even if they were reinvested. An excellent source of additonal information can be found at www.FundingYourFuture.org.