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Reduce Your Capital Gains Distributions with UITs

For many investors looking for higher returns and portfolio diversification, mutual funds are ideal investments. They offer a combination of professional management, liquidity and reduced volatility that makes them excellent vehicles for both growth and income investors. However, some investors follow simpler investment strategies that do not require active portfolio management, and therefore do not need to pay the high sales charges and ongoing management fees assessed by many funds.

There is, however, an alternative for those in this category. Unit investment trusts (UITs) provide diversification similar to mutual funds, but without the internal portfolio turnover. A unit investment trust is simply a set portfolio of securities that have been selected according to either a specific set of characteristics or perhaps a specific investment strategy. Just as a share of a mutual fund represents an undivided interest in each of the funds’ holdingd, each unit of the trust represents an undivided interest in each of the securities held within the trust. Each trust will hold the securities for a set term and then mature. Upon maturity, the securities in the trust are reset according to the trust’s objective if necessary. The process is then repeated. There are many types of this kind of trust; one of the most common examples of this is UITs that follow the “dogs of the Dow” strategy. The ten highest dividend-yielding stocks from the Dow Jones index are purchased within the trust and held for 13 months. Then the stocks within the trust are adjusted according to this strategy, and a new trust is issued for another 13 months. Because they are not actively managed, UITs do not generate capital gains or losses of any kind, except at maturity. They can pass through interest and dividends periodically, depending upon the investment objective of the trust. There are many different types of UITs that meet various investment objectives, such as growth, income, or sector exposure.

UITs also generally cost less to invest in than actively managed investments. Although most UITs generally have a nominal sales charge, they have no annual expense fees of any kind, due to their passive management. Even their initial fees tend to be fairly low. Many of the trusts that follow the “Dogs of the Dow” strategy usually have an entrance fee of around 1%. Although this fee is charged every time the trust resets, the aggregate cost is still often below that of a comparable mutual fund investment.

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