Exchange-traded funds (ETFs) are generally index funds that trade like stocks. For example, SPDRs SPY track the S&P 500 Index. Investors buy those shares on the American Stock Exchange.
Unlike mutual funds, which always pass capital-gains taxes to their shareholders, ETFs only generate taxes by owning dividend-paying stocks or by changing their holdings to reflect changes in their indexes. To minimize your tax bill, use ETFs that track large-company indexes, which change infrequently. Other indexes, such as those tracking small and midsize companies, change more frequently, and that means tax bills for shareholders.
We cover ETFs in greater length in Portfolio 403: Exchange-Traded Funds. You can also drop by Morningstar.com's ETFs Center to learn more about these types of investments.
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