Tax season is upon us, so let's talk about picking a mutual fund for your IRA. Your search begins with your investment plan. Review it annually to see if you lack a sector or need to beef up an asset class. As you begin to narrow the field with fundamental criteria, remember this: Some funds have "IRA!" written all over them.
A matter of timing
When a fund realizes capital gains by selling stocks or bonds at a profit or receives interest or dividends, any amount above the fund's expense ratio must be paid out to shareholders, who are then taxed on that income. Some funds are much better than others at shielding shareholders from taxable income and capital-gains payouts. And some investors make it a habit to steer clear of "tax-inefficient funds," those that pay out a substantial portion of each year's gain as taxable income.
When you're choosing a fund for an IRA, though, you can ignore this issue. The attraction of IRAs and other tax-sheltered accounts, of course, is that the profits aren't taxed right away. Instead, they compound until you actually withdraw the money from your account. Only then do you pay the tax.
From just $107.88 $24.99 for Kiplinger Personal Finance
Become a smarter, better informed investor. Subscribe from just $107.88 $24.99, plus get up to 4 Special Issues
Sign up for Kiplinger’s Free Newsletters
Profit and prosper with the best of expert advice on investing, taxes, retirement, personal finance and more - straight to your e-mail.
Profit and prosper with the best of expert advice - straight to your e-mail.
That means some funds you might avoid in a taxable account are suddenly back on the menu when you're investing in your IRA. Here are four examples -- each representing a different asset type -- that present tax problems in taxable accounts but can be terrific inside a tax shelter.
At T. Rowe Price Global Stock (symbol PRGSX), manager Rob Gensler's turnover has exceeded 100%, so shareholders are quickly taxed on their gains. Now the good news: The fund hasn't been discovered yet because Gensler took over in 2005, following his outstanding run at T. Rowe Price Media & Telecommunications. At Morningstar, we made it a Fund Analyst Pick a year after Gensler took the helm because we liked his previous record. The fund has only $400 million in assets, so Gensler has flexibility to pursue his strategy of finding growth companies with sustainable competitive advantages in the U.S. (roughly 50% of the portfolio) and abroad. He runs a fairly focused portfolio, so be prepared for some bumps. The fund returned a category-beating 23% in 2006.
Pimco StocksPlus D (PSPDX) employs a clever strategy: It invests in index futures but tries to beat the underlying benchmark (Standard & Poor's 500-stock index) by using a bond overlay. The core idea is to choose bonds that will beat the LIBOR rate, which is priced into futures contracts. Succeed by more than the fund's 1.03% expense ratio and you'll beat the index (and any traditional index fund tracking the index). Since its 1993 inception, the Pimco fund has virtually tied the S&P 500 on an annualized basis. The catch is that nearly all the yearly returns come as taxable income. So this one is for IRAs and 401(k)s only.
Arbitrage funds, such as Merger (MERFX) and Calamos Market Neutral Income A (CVSIX), can produce solid returns that have a very low correlation to those of the market. For example, during the bear market of 2000Ð02, Merger posted calendar-year returns of 18%, 2% and -6%, and Calamos returned 10%, 8% and 7%. These funds are Òmarket neutralÓ because they try to capture inefficiencies that have little to do with the market's direction. For example, Merger buys shares of companies about to be acquired. It profits from the spread between the price just after the announcement and the price when the deal closes. The difference is the risk premium that the deal won't go through. Although this makes Merger a good diversifier, arbitrage leads to lots of capital gains and income. Save this fund for your IRA. The same advice goes for Calamos Market Neutral Income, which does convertible arbitrage -- that is, it buys undervalued convertible securities and shorts the stocks of the issuing companies.
Columnist Russel Kinnel is director of mutual fund research for Morningstar and editor of its monthly FundInvestor newsletter.
-
I'm retired with $2.2 million saved and work 2 retail shifts a week for fun. My young colleague just got her hours cut, and I don't need the money. Should I quit so she can have my shifts?We asked certified financial planners for advice.
-
Could an Annuity Be Your Retirement Safety Net?More people are considering annuities to achieve tax-deferred growth and guaranteed income, but deciding if they are right for you depends on these key factors.
-
Older Taxpayers: Don't Miss This Hefty (Temporary) Tax BreakIf you're age 65 or older, you can claim a "bonus" tax deduction of up to $6,000 through 2028 that can be stacked on top of other deductions.
-
457 Plan Contribution Limits for 2026Retirement plans There are higher 457 plan contribution limits in 2026. That's good news for state and local government employees.
-
Medicare Basics: 12 Things You Need to KnowMedicare There's Medicare Part A, Part B, Part D, Medigap plans, Medicare Advantage plans and so on. We sort out the confusion about signing up for Medicare — and much more.
-
The Seven Worst Assets to Leave Your Kids or Grandkidsinheritance Leaving these assets to your loved ones may be more trouble than it’s worth. Here's how to avoid adding to their grief after you're gone.
-
SEP IRA Contribution Limits for 2026SEP IRA A good option for small business owners, SEP IRAs allow individual annual contributions of as much as $70,000 in 2025, and up to $72,000 in 2026.
-
Roth IRA Contribution Limits for 2026Roth IRAs Roth IRAs allow you to save for retirement with after-tax dollars while you're working, and then withdraw those contributions and earnings tax-free when you retire. Here's a look at 2026 limits and income-based phaseouts.
-
SIMPLE IRA Contribution Limits for 2026simple IRA For 2026, the SIMPLE IRA contribution limit rises to $17,000, with a $4,000 catch-up for those 50 and over, totaling $21,000.
-
457 Contribution Limits for 2024retirement plans State and local government workers can contribute more to their 457 plans in 2024 than in 2023.
-
Roth 401(k) Contribution Limits for 2026retirement plans The Roth 401(k) contribution limit for 2026 has increased, and workers who are 50 and older can save even more.
