Can you please explain why I have lost money on the TD U.S. Money Market Fund (US$)? I bought my D series units (fund code: TDB2915) with U.S. dollars from my U.S. account in three installments: US$107,540 in July, US$22,100 in October and US$92,000 in December. My statement now shows that my holdings have lost US$937.20, or 0.42 per cent, which is the difference between the “book cost” of $225,587.93 and the current market value of US$224,650.73. I thought you couldn’t lose money on a money-market fund. I have talked to four different representatives of Toronto-Dominion Bank but am still confused.
Good news: You haven’t lost money. You’ve made money.
You can confirm this by adding up your three lump-sum purchases, which total US$221,640. Now compare that with the current market value of your holdings, which is US$224,650.73. The difference of US$3,010.73 reflects the interest you have earned and reinvested in additional units of the fund, which currently yields about 5.4 per cent.
So what’s with the $937.20 loss on your statement? Why would your financial institution make it look like you’re in the red if you’ve actually made money?
This is where things get a little more complicated. I’ll try to make the explanation as straightforward as possible.
According to a spokesperson for Toronto-Dominion Bank, the TD U.S. Money Market Fund declared a “notional distribution” of 4.184 US cents per unit at the end of 2023. The distribution reflected “capital gains on foreign exchange resulting from the conversion of U.S. dollars to Canadian dollars for tax reporting purposes,” the spokesperson said in an e-mail.
Translation: Because the TD U.S. Money Market Fund holds a basket of short-term debt securities – including commercial paper and bankers’ acceptances – that are denominated in U.S. dollars, changes in the Canada-U.S. exchange rate can trigger capital gains and losses during the year. After adding up all of these currency-related gains and losses in 2023, the fund ended the year with a net capital gain of 4.184 US cents per unit. This appears to have been strictly a paper gain for Canadian tax purposes.
Typically, mutual funds, exchange-traded funds and some real estate investment trusts “distribute” net capital gains to unitholders annually in December. I put the word “distribute” in quotation marks because investors generally don’t receive such distributions in cash, since capital gains are usually reinvested internally by the fund during the year. The only thing unitholders receive with such “phantom” distributions is a chunk of capital gains on their T3 Statement of Trust Income. Having to pay tax on income you didn’t receive is a bummer, for sure, although the blow is softened somewhat by the fact that only half of capital gains are taxable.
Now, back to the reader’s original question. Because he will have to pay capital-gains tax on that non-cash distribution of 4.184 US cents per unit, the adjusted cost base (ACB) of his units needs to be increased by an identical amount. To understand why, imagine that he received a distribution in cash, then immediately reinvested it, much like what happens with a dividend reinvestment plan. With DRIPs, every reinvestment of a dividend is effectively a new purchase, which increases the ACB accordingly. It’s the same principle with phantom distributions. Increasing the ACB will reduce the reader’s capital gain, or increase his capital loss, when he ultimately sells his units, preventing him from having to pay tax a second time on the distribution.
In this case, however, what apparently happened is that the financial institution already increased the ACB – also known as “book value” or “average cost”– on his statement to reflect the distribution, saving him the trouble of adjusting his ACB manually.
I asked the reader to send me screenshots of his statements, which confirmed this.
At the time of the distribution, he held 22,398.51 units of the TD U.S. Money Market Fund. Multiplying that by 4.184 US cents per unit produced a total notional distribution of about US$937.15, which is virtually identical to the apparent “loss” of US$937.20 that prompted him to get in touch with me. So, all that happened here is that his ACB was increased, making it look like he lost money when his investment has grown substantially.
That’s the good news. The bad news is that he’ll have to come up with the cash to pay the capital gains tax on that “distribution” he didn’t actually receive. But he’ll effectively recoup that tax when he eventually sells his units.
Bottom line: Phantom distributions can sometimes create phantom losses. In such cases, financial institutions could do a better job of communicating with clients to save them from unnecessary worry.
E-mail your questions to jheinzl@globeandmail.com. I’m not able to respond personally to e-mails but I choose certain questions to answer in my column.
John Heinzl