Here’s a great question a student recently asked me at one of my classes on investing and retirement planning at Ventura College:

“I’m looking into buying a new mutual fund, but I’ve heard that capital gains can hurt me. What should I do?” This is an important question for almost everyone building their savings, since mutual funds are one of the most common types of investments, especially as part of 401(k)s and IRAs.

Like most investment decisions, it’s vital to do your homework. There are plenty of people out there who cannot wait to sell you a mutual fund, so never forget the golden words: “Let the buyer beware.”

If you buy a fund just before its gains in value (capital gains) are distributed back to investors, it can cost you taxes for a benefit you really did not enjoy. This is even possible in years when a mutual fund posts a negative return.

Gains in value are usually good news for mutual fund investors, but timing your buying decision can help you and your fund get off on the right foot.

By law, fund companies must distribute 90 percent of realized capital gains and dividends each year. Mutual funds usually make their distributions in November or December (usually late December). If it’s practical to wait until after the distribution is made, you can avoid paying taxes (and a 1099 tax form) you really don’t deserve.

Capital gains distributions also confuse investors about the actual value and performance of mutual funds. Currently, chart graphs, so commonly used as a snapshot of mutual fund performance, really aren’t delivering a true picture.

Many charts show mutual funds taking a sharp dip around December. Does this indicate negative performance? Not necessarily.

Chart dips in December often simply indicate gains distributed to investors that are not well portrayed. The fund’s price, or NAV, is dropping by the exact amount of the distribution.

That price drop means investors who automatically reinvest dividends now own more shares. Similar to the effect of a stock split, this is a good thing for investors who bought at a good price.

Savvy investors can actually benefit from accounting rules that govern capital gains and losses in mutual funds.

Suppose you’ve found a mutual fund that posted losses over several years. You’re interested because it has a new manager who should turn around performance. All those years of losses can absorb future gains for many of the stocks in the fund, giving you the opportunity to enjoy capital gains in the fund without the usual taxes.

Bear in mind that capital gains distributions are typically not an issue for retirement accounts.

If you have any further questions on this or other topics related to money, investing and retirement, send them to my e-mail address,

dave@wagnerfinancial.com, and I’ll do my best to get you a quick answer.

Dave Claus is a local writer, educator and investment advisor. Securities and investment advice offered through Transamerica Financial Advisors.