Tyler York

November 24, 2022

You’ll need to calculate the total return of an investment strategy in order to pass the FINRA SIE and other exams, and in your work as an investment professional. This video walks you through a total return problem in Achievable’s FINRA test programs and shows you how to properly dissect related test questions.

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0.0s Let's take a look at it after tax return question, which certainly can involve a lot of moving Parts. Not only do you need understand total return off of Investments but how taxes involve one pack of returns of those Investments and how to put the big picture together on these calculations, which certainly can be tough at times to do. So we will attack a question together. But when put the question on the board and investor in the 37% tax bracket makes a $108,000 investment in a specialized fund on March 18th 2022, over the next several months, the investor receives a total of $4,320 in qualified dividends none of which is reinvested on March 20th, 2023. The investor redeems, the fund for a total of $122,000. What is there after tax return? Take quite the question. Why do moving Parts here? A lot of things to be aware of. We will break this down on a sentence, by sentence basis, to make sure that you feel 59.9s Comfortable and confident and prepared for these types of questions on the actual exam, going back to the first sentence and investor in the 37% tax bracket. Let's just look at that. What they're making reference to in this question is the Investor's marginal federal income tax bracket which ranges from 10% on the bottom all the way up to 37%. This is a progressive tax system that we have here in the United States which means the more income you make the higher the tax bracket, you're a sign and yes 37% is the highest income tax bracket out there which means this investor is probably making a pretty decent amount of money through their job or their business usually to get to 37% yes be making half million dollars plus every single year in income. Now in some questions just understanding that someone in really the 30% range in terms of their tax bracket is you. 119.9s Making a decent amount of money is important and it's, especially important. Any question like this, where we're looking for the after tax return. Their tax bracket will influence, how they're taxed on some of the Investments, they make money on. But let's keep going after that. They make a hundred and $8,000 investment in a specialized, but will pause there. Now, $108,000 is going to be what we refer to, as the original starting basis or the original investment that the investor made. Now, that's going to be a really important thing because that's going to be a big part of the after tax return formula. In fact, let's go ahead and put the app tax return formula up on the screen. After tax return is going to feel somewhat similar to Total return. And essentially after tax return is Total return. But with taxes factored out of the formula. So basically it's all tax adjusted gains and losses or just gains and losses after tax. 180.2s Divided by the original investment or what we might refer to as the basis of the investment now. A hundred and $8,000 certainly seems like it'll go in the denominator down there. The bottom where the bases should be. But just keep in mind that if the investor made any additional investments into the fund later, down the line or Theory invested say Dividends are capital. Gains it received from the find that wouldn't riester basis and increase the number. We put down there in the denominator, we've already gone through the question. They didn't put more money in. They didn't reinvest any of the Dividends are capital gains back into the fine, so we can go ahead and assume a hundred and $8,000 will be the basis. It is the original investment into this security, so that will go in the denominator of the calculation, but we'll go ahead and put that aside for. Now, we still have a good amount of work to go through before we actually do the calculation, the investment was made on March 18th 2022. That date actually will be important for us and we'll see why 240.2s Once we go through the rest of the question. But let's go to the second sent over the next several months. The investor receives a total of $4,320 in qualified dividends none of which is reinvested Gary, talk about the reimbursement part again. If he had reinvested these dividends back into the fund, that would have added to the basis, but they didn't know $4,320 in qualified. Dividends that is a really important part of this question. That is a return that's money. In the investors pocket that it seems like they took in cash just means they may be sent that money to the bank account or maybe he took it out and they were sent a check from the fund, who knows? But they took it and that's no longer in the investment anymore, its just turn off the investment. Now the key term here is the term qualified dividends if you've been through a lot of the material, one of them, more frustrating words, you probably come across as the were qualified cuz qualified can show up in a lot of different areas there, if there are qualified plan, 300.3s There are qualified investors and they're qualified dividend. And I'm really just talking about three of the most common ways, we use the word qualified. There's even other ways, we use the word qualified in this context, the reason why knowing the dividend is qualified reason, why that's important is because Dividends are either qualified or non-qualified in whichever one, they are influence the tax rate that is assessed on the investor. If it were a non-qualified dividends they would be assessed a tax rate on a dividend that would be equal to their tax bracket. Which in this case here would be 37% qualified. Dividends on the other hand are taxed for some people at literally 0% but for most investors will either pay 15 or 20% on a qualified dividend. 348.5s In particular, the investor is at the highest tax bracket switch, this investors at literally the highest tax bracket. They pay 20% on their qualified dividends, you can safely assume if they mentioned someone at the 34 or 37 per cent tax bracket, you can assume they'll pay a 20% tax rate on qualified dividends and we will make that assumption in this question. Investor receives $4,320. But will pay a 20% tax rate on that dividend. The easiest way to figure out how much they keep after tax would be to multiply the amount given as they received by 100% minus the tax rate, they're facing again 20% and basically he's kind of like saying hey investor received $4,320 in qualified dividend. 20% of those Dividends are going to go to the IRS pay to the government. The remaining 80% is kept by the investor so 408.5s Dollars in dividends x, x 80% will give us a $3,456 after tax return on those dividends. This represents one of the two forms of return the receiving on this phone. So kind of halfway there. Let's go to the next sentence on March 20th, 2023. Investor redeems, the fun for a total of 122000. OK. Google, in this sentence here for a couple reasons. Number one, the word redeems is a mutual fund related word. Mutual funds are redeemable Securities which means if you're going to sell the fun later, you have to go back to the issuer, sell the van back to them, and they were deem your shares. For all intents and purposes. Just means the investor sold the fun for $122,000. Now, let's go back to the date. Here's the other part, that's really important the date of March 20th. 2023 tells us that this is actually a long-term capital gain that their law. 468.5s Yeah, if you go back to the very first sentence, they bought the investment originally for 108,000, they are selling it for a hundred 22000, so we know that's a game. In fact, that's a $14,000 capital gain. They have back to the dates, they held the fun for at least one year. And one day, which is when we get to a long-term capital gain, in fact, they held the fun for one year and two days. Now, the reason why that's really important is if it was a short-term capital gain and a short-term capital gain would have occurred if they had sold the fun on March, 18th 2023 or any day for that short-term capital gains are taxable at the investors tax bracket, which would have been 37%. That's a pretty big tax rate. 513.9s But because it's a long-term capital gain long-term capital gains are taxed in the same way that qualified dividends are some people pay 0% but most investors pay 15 or 20% on long-term capital gains. Again this investors in the highest tax bracket so we can assume their tax rate on that long-term capital gain will be 20%. Now, we just need to factor taxes out of the return, a $14,000 long-term capital gain x * 100%, - the applicable 20% tax rate. Basically $14,000 X 80% will give us $11,200 after tax. Now at this point, we really done all the hard work. The tough part about this question is figuring out what the return is in what applicable tax rate applies, and then factoring the taxes out of it. We have a $3,456 after tax return on the qualified dividends 573.8s $11,200 after tax return in the long-term capital gain, adding those two numbers up. We have a total after tax return of $14,656. In the last step is actually doing the after tax return calculation. The total after-tax gain or loss, we have is a positive, $14,656, return, and we'll divide that by the original investment were the basis of $108,000 and that ultimately will give us the answer of 13.57% in summary after tax. Return is basically Total return. But with taxes factored out of the returns and the key part is understanding of how different returns are taxed qualified dividends are taxed for most investors, either at 15 or 20% versus non-qualified Dividends are taxable at the ambassador's. Tax bracket long-term capital gains are taxed for most investors at 15 or 20% while short-term capital gains 633.8s Again, tax debt be investors tax bracket.

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