Year-End Distributions Hold Dangers for Fund Investors / Buying right before the "date of record" can lead to an early tax bill

SIMON CONSTABLE for the Wall st. journal writes: Congratulations, you've made it through another year! Well, almost. For mutual-fund investors, there is at least one more thing that could trip you up: ignoring the so-called date of record for the capital-gains distributions that many funds pay near year-end. Failure to pay attention may mean you get taxed for profits you didn't actually participate in.

With stocks, you decide when to take your capital gain or loss when you sell. But funds must distribute substantially all of the net realized gains in their portfolios to investors each year, explains Brian Peer, co-portfolio manager at Novato, Calif.-based Hennessy Funds.

The recipients are the investors who own fund shares on a predetermined day, the record date. After that date, the fund price trades lower by the amount of the distribution.

You actually get the money on the payout date, which is typically later, and many investors opt to reinvest the dollars in additional shares of the same mutual fund.

No matter when you purchased it, if you own the fund on the record day, you will get that distribution—and it will be taxable unless you hold the shares in a tax-favored account such as a 401(k) or individual retirement account.

"It's certainly something you should be aware of in a taxable account," says Russ Kinnel, director of fund research at Morningstar Inc.

What if your fund stake has actually dropped in value since you bought it? The distribution reduces the value of the fund shares, says Mr. Kinnel. That means the tax you pay now will reduce the taxable gain (or increase the loss) when you eventually sell. But depending on how long you hold the fund it could be years before it irons out.

If you are worried about getting hit with a capital-gains payout, don't buy a fund right before the record date. Information about record dates and estimated distributions should be available on the fund website.