Investing mutual funds can be a great way to diversify your portfolio and grow your money without requiring a lot of effort on your part. It’s also a great way to invest if you’re starting out with a small amount of money, because it’s more likely to protect your money. For example, if you have just $5000 to invest, and you put it all in one stock or bond, you’re at great risk if that stock or bond performs poorly. However investing mutual funds allows you to diversify even your small investment, protecting part of your money if one of the companies you invest in loses value. Choosing your fund is an important decision. It’s critical to avoid some of these common mistakes made by people investing mutual funds.
Not being informed of the risk- When you purchase shares of a mutual fund, they are required to provide you a prospectus. However, you should ask for – and read – the prospectus before investing in mutual funds. The prospectus will let you know the investment goals of the fund, whether you can expect to earn dividends and inform you on the past performance of the fund. You’ll also learn how much risk you’re undertaking by investing in this particular mutual fund. All of this information is important before investing mutual funds.
Not understanding the tax implications – Investing mutual funds is a little different than individual stock investing, from a tax perspective. When you own an individual stock, you are required to pay taxes each year on any dividends or interest you receive, even if you reinvest these. However, you are not required to pay capital gains tax until you sell your shares, and only then if you have made money on the shares. However, when you own shares in a mutual fund, in addition to paying income tax on dividends in the year you receive them, you may also be required to pay taxes on the fund’s capital gains for the year. This is because the law requires mutual funds to distribute capital gains to shareholders if they sell any securities held in the fund during the year and make a profit on these sales that cannot be offset by a loss in the same year. This can be an important factor you should consider before investing mutual funds.
Not understanding the fees you’ll pay – All mutual funds charge fees, both at the time you initially invest in the fund, and each year that you continue investing mutual funds. If you don’t have a good understanding of these fees, you may be in for a shock when you receive your first statement, and you have less money in your investment account than you originally invested. In addition to the up front charge and the yearly management fee, you’ll also be charged fees when you make a transaction within your fund, such as buying or selling shares. You may also be charged if you move your money within the same fund group or family of funds. In short, when investing in mutual funds, you should expect to pay some sort of fee whenever you make any kind of change to your account. It’s important for you to understand the timing and amount of every fee you’ll have to pay.
Investing mutual funds is a great way to grow your money, as long as you’re fully informed of all the implications before you invest your money.