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  • March 20, 2013

    Tax time is here, and investors are not only grappling with their 2012 taxes, but also trying to figure out how they can save on their future obligations. As governments at all levels—federal, state, and local—struggle with profound fiscal imbalances and burdensome long-term debt, higher tax rates are almost certain. Don Peters, a 20-year veteran of T. Rowe Price who manages tax-efficient growth stock portfolios, discusses the benefits of a patient, long-term investment strategy designed to minimize capital gains and maximize after-tax returns.

    Many investors overlook the potential for taxes to impact the long-term performance of their taxable investment portfolios.

    • Studies have shown that taxable portfolios can lose an average of 1% to 2% per year between pretax and after-tax returns. While this may not seem like much in any single year, it can have a big impact over longer periods of time.

    Tax-efficient investing begins with asset location, deciding whether to use taxable or tax-deferred investment accounts.

    • Investments with high interest income, high dividend production, or high capital gains may be more appropriate for a tax-deferred investment account.
    • Investors should consider a taxable account if they expect to own individual securities for a long period, or use a low-turnover, growth-oriented investment approach.

    Our approach to tax-efficient investing does not focus purely on tax mitigation, but instead seeks to minimize capital gains and maximize after-tax returns.

    • We invest for the long term, focusing on high-quality mid- and large-cap stocks in companies that have sustainable competitive advantages, strong market positions, and reasonable valuations. We like to let our winners run but will sell stocks when their long-term fundamentals deteriorate.
    • We believe market timing is virtually impossible. Attempts to sell at the peak and buy at the bottom require an investor to make the right timing decision not once but twice, making the odds of success so poor that it's not worth trying. Although we may make new purchases opportunistically, we do not trade opportunistically.
    • Our buy and hold strategy requires patience and relies on the deep industry and company knowledge provided by our global research platform. This long-term approach helps us see through short-term trends to find buying opportunities that others may have missed.

    There are inherent risks associated with investing in the stock market, including possible loss of principal, and investors must be willing to accept them. Investing in companies with fast growth potential may be more volatile than investing in slower-growing or cyclical companies, and investing in a tax-efficient manner may underperform similar investment strategies that do not make tax-efficiency a primary focus.

    The views are as of March 12, 2013 and may have changed since that time. This information is provided for informational purposes only and is not intended to reflect a current or past recommendation, or investment advice of any kind. Opinions and commentary do not take into account the investment objectives or financial situation of any particular investor or class of investor. Investors will need to consider their own circumstances before making an investment decision.

    Copyright 2014, T. Rowe Price Investment Services, Inc., Distributor. All rights reserved.