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By Rey SantodomingoDirector of Investment Strategy - Tax Managed Equities, Parametric

Seattle - Investors who missed filing their tax returns on April 15 were no doubt relieved to hear that the IRS extended the deadline to July 15. The extension was announced on March 17 amid growing concerns over the COVID-19 pandemic, which sent the market into a free fall less than a month after hitting its peak on February 19.

Filing taxes has become an increasingly complicated endeavor. We're thankful for the extra time everyone has to file their tax returns this year. However, filing season reminds us of the unfortunate disconnect between reported investment returns and tax costs. Investment manager quarterly performance reports reflect the price changes of securities held during a period, but they don't show the tax costs of the trades made in the account. Each sale of a security creates a realized capital gain or loss and an associated tax cost or benefit.

It's often not until the end of the year — when investors have a chance to view their year-end tax return statement — that the capital gains tax comes to light. At this point it can be difficult to attribute the capital gains tax to the investment strategy or manager triggering those costs. Tax-aware advisors and managers like Parametric may be able to bridge the gap between the investment return and the tax return by calculating the after-tax investment return. This reflects the price changes of securities held and the tax costs and benefits associated with portfolio management.

Bottom line: The July 15 extension gives us more time to prepare our tax returns, but it also provides the potential to postpone the consideration of taxes in our investments. After-tax returns are important to consider because taxes — which are similar to fees — introduce a drag on investment returns. While investment managers report all pretax returns, few report after-tax returns. Measuring and monitoring tax benefits and costs may help investors mitigate these costs in the future.

tax forward