Mutual funds
sold in the United States are required to pay out all capital gains at least once per year. The same isn't true in Europe. Now, a think tank backed by the financial services community is pushing to eliminate the provision that requires U.S. mutuals to make those capital gains payments.

Introducing the CCMR
The group, the Committee on Capital Market Regulation (CCMR), released a report by Harvard professor John C. Coates that includes a set of recommendations for mutual fund regulators that includes eliminating the required yearly capital gains payout for all investors owning less than 2% of a mutual fund's outstanding shares. Under this plan, the gains would be deferred until the fund is sold - exactly the way most other securities are treated. Coates and the CCMR have proposed their plan under the auspices of making U.S. funds more competitive on an international basis and giving a tax break to middle-class investors. (Learn about the easiest way to benefit from money market securities in Introduction To Money Market Mutual Funds.)

Does this Plan have Merit?
Sure, the tax provision would help U.S. funds compete overseas, but remember that the U.S. fund industry isn't exactly in dire straits. With pension plans falling by the wayside, and investors who hope to retire someday having no other way to get an employer to match contributions (unless they invest through employer-sponsored retirement plans), the U.S. fund complex has a massive captured audience. Additionally, most major fund providers and banks already sell their products offshore, and do so quite profitably. We're not talking about the dumping of foreign steel on a helpless domestic market; we're talking about a grab for an even bigger slice of profits, by turning to foreign markets after saturating the U.S. market, taking all the profits that could be had and losing the faith in the very investors the industry claims to be helping. (Find out why employees have a love/hate relationship with pension plans in Pension Plans: Pain Or Pleasure?.)

From an Investor's-Eye View
Now let's look it the situation from an investor's perspective. Tax deferral? It sounds great! It has huge populist appeal, but the truth is that most people simply don't own enough mutual funds outside of their employer-sponsored plans to generate a tax bill worth mentioning. Remember, we live in the land of the zero or near-zero savings rate. We're not a nation of thrift savers being victimized by taxes regardless of how the CCMR seeks to position the issue.

Interestingly, the proposal comes after a year spent studying the global economy and regulatory challenges in effort to create a system that reduces risk through regulation, provides disclosure to stabilize the market, unify the regulatory system and increase international cooperation on regulatory issues. The Coates recommendation would provide a tax break to those American rich enough to have large taxable mutual fund portfolios, and pump up profits at mutual fund firms. Neither of those results seems to be quite in keeping with the groups stated goals.

The proposal would also have an immediate impact on Federal coffers. If mutual funds stop making their annual gains payouts, tax revenues will fall. Today, that revenue comes only from people who have enough disposable income to invest. If that revenue stream is cut, a more broad-based tax is likely to replace it. So a small number of investors would get a meaningful tax break at the expense of the general public.

Does the Proposal have a Chance of Becoming Law?
If the muscle of the financial services industry's lobbyists has anything to say about the matter, the proposal just may have legs. Will the average middle-class investor reap a windfall tax break if it does? Take a look at the tax bill generated by your personal mutual fund holdings in 2008. If you've got huge gains, perhaps you could be kind enough to share the secret of your success with the rest of the country's investors.

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