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Lesson 8 of 9 · 12 min

Taxing price and income returns

Price gains and cash distributions are often taxed at different rates, and only when realised, so the after-tax return depends on how the return was earned and when gains are taken.

In short

Capital gains tax applies to realised price gains: $(P_1 - P_0) \times t_{cg}$ . Distributions (dividends, interest) are usually taxed as income at a different rate.
After-tax nominal return: $r_{\text{net-tax}} = r_{\text{price}}(1 - t_{cg}) + r_{\text{dist}}(1 - t_{\text{dist}})$ .
Realised losses can often be offset against realised gains; long-term gains often get a lower rate than short-term gains.
An investor who does not sell pays tax only on distributions that year; the gain stays untaxed until realised.
To cut the tax bill: choose tax-favoured investments, keep turnover low and defer realising gains.

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