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What Are Investment Expenses and Which Are Tax Deductible?


Have you ever wondered what makes up your investment costs? Knowledge of what is deductible and how to maximize these deductions can lead to significant tax savings. By efficiently managing your investment and transaction fees, a financial advisor could effectively pay for their own fee through the cost savings they create. Here are several key points about the impact of investment expenses on your financial health.

What Are Investment Expenses?

Investment expenses are costs associated with managing and maintaining an investment portfolio. They can vary based on factors such as the type of investments you hold, how frequently you trade and the services provided by any broker or financial advisor you work with. Here are some of the most important expenses you may encounter.

Maintenance expenses are one of the most common, which are costs associated with managing and maintaining an investment portfolio. These costs can include management fees, transaction fees and account fees. Management fees are typically a percentage of the assets that a financial advisor manages for you. Transaction fees are costs associated with buying or selling investments and account fees can include annual fees, inactivity fees and more.

There are several different types of miscellaneous investment expenses. Some, like management and advisory fees, are recurring and predictable. Others, like transaction fees, depend on your investment activity. Certain expenses, such as account maintenance fees, may be avoidable with the right strategies or behaviors.

How Expenses Can Impact Your Investment Portfolio

Understanding how expenses can potentially impact your portfolio’s returns is crucial for effective investment management. Even 1% in extra fees might reduce your hypothetical investment returns significantly over time. If fees get out of hand and you’re overpaying for investments that are also underperforming can significantly impact your return over time. 

According to the U.S. Securities and Exchange Commission, a 1% charge in additional fees might reduce your investment returns by 25%+ over 20 years. This is because investment expenses directly reduce your portfolio’s net returns and if you compound that over time then you’re seeing a large negative impact on your total portfolio.

Types of Tax Deductible Investment Expenses

Breaking down investment expenses

Not all investment expenses are entirely bad or at least can provide a decent amount of opportunity to get some of your cost back. Certain investment expenses, for example, can be tax deductible, which can help offset their impact on your portfolio. It’s important to consult a tax advisor about the potential implications of these deductions, but here are three common expenses that are tax deductible.

  • Investment Interest Expense: Investment interest expense is the interest paid on money borrowed to purchase taxable investments. This could include a scenario where you’ve taken out margin loans for buying stocks in a brokerage account.
  • Qualified Dividends: Qualified dividends are dividends that meet certain criteria to be taxed at the capital gains tax rate, which is lower than the ordinary income tax rate. Investors, however, may want to turn those qualified dividends to ordinary dividends when they have a lot of investment interest expenses. This could allow you to deduct more of those expenses, but make sure the deduction is big enough to pay off.
  • Capital Losses: If you sell an investment for less than its cost basis, you have a capital loss. For example, if you sell a stock that you bought for $100 for $90, you have a $10 capital loss. You can deduct capital losses to offset capital gains, potentially reducing your tax liability.

Take note: Knowing your cost basis can help you keep track of investment losses and gains. This is the total of how much money you paid to buy an investment, including commissions, fees and interest. If you sell an investment for more than the cost basis, you’ll only pay taxes on the money that was made above it. And, if you sold for less than the cost basis, you’ll take a loss without owing taxes.

Miscellaneous and Deductible Investment-Related Expenses

There are a variety of other costs that investors may incur, some of which are deductible while others are not. These can include costs for investment research or financial publications, fees for investment advice and expenses for internet access used primarily for investment activities.

Although many of these miscellaneous investment-related expenses are no longer deductible under current IRS regulations, consulting a professional advisor can provide clarity on your particular situation. Everyone’s individual taxes are going to be different based on other factors like your total taxable income. There isn’t a one-size-fits-all approach to tax planning.

Increasing Your Deductible Expense Amount

There are several strategies for maximizing deductions. For example, you might hold investments longer to qualify for long-term capital gains tax rates, which are lower than short-term rates. If you’re wanting to implement a strategy for a unique purpose, you may need to work with a professional if you don’t have the expertise to do so on your own. Making errors could be costly to your tax obligations.

Common errors can include forgetting to deduct investment interest expense or not understanding the rules for deducting capital losses. Avoiding these mistakes can help you maximize your deductible expenses. 

Bottom Line

Couple looking at their investment expenses

Understanding and managing investment expenses is key to effective personal finance management. By being aware of the types of expenses you’re incurring, how they can impact your investment returns and how they’re treated for tax purposes, you can make more informed investment decisions and potentially increase your net returns. Nevertheless, this is general advice and individual results may vary. 

Tips for Investing

  • Investing on its own is difficult enough, much less trying to keep a handle on the expenses. Working with a financial advisor can simplify the entire process and help keep your investment portfolio headed in the right direction to help you reach your long-term goals. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches, get started now.
  • You can use SmartAsset’s free asset allocation calculator to help you see what your portfolio might look like with different investment options. 

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