Income investors with large taxable accounts are consistently focused on maximizing their total return and minimizing the impact of taxes on their nest egg. That means seeking out funds that are sensitive to the type of income they produce and the implications of using capital losses to offset gains.
Exchange-traded funds (ETFs) are one avenue for investors to consider in this pursuit. Many ETFs that track a passive index, have low portfolio turnover rates and often pay little to zero capital gains at year-end. These make for a truly inexpensive and effective vehicle for tax-conscious investors that want diversified stock or bond exposure.
Those who may be searching for a more active strategy or one that offers a higher yield may be interested in tax-advantaged closed-end funds (CEFs). These more aggressive funds offer the ability to own a diversified basket of stocks with the ability to employ leverage and more creative portfolio construction methods.
As a closed-end fund portfolio manager, I always caution investors against the danger of purchasing funds based on one-dimensional factors like yield of tax-efficiency. Every fund should be evaluated for the merits of its portfolio strategy, distribution plan, costs and co-mingling with other holdings in your accounts.
Furthermore, it’s extremely important to consider how a closed-end fund is trading relative to its net asset value and prior historical trends. If a fund is at an abnormal premium or very tight discount, it may be better to wait for a correction rather than jump head first into the frothy waters.
These vehicles offer many advantages over traditional ETFs and mutual funds. Yet, they must also be carefully managed because of the significant risks of sentiment turning the tides on the current price trend.
With that in mind, the following are three CEFs that seek to provide both growth and income with a tax-efficient objective.