'Mutual Funds Dividends' is explained in detail and with examples in the Investments edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.
Where mutual funds are concerned, dividends are quite different than they turn out to be for stocks. Mutual fund dividends are actually required distributions of both income as well as capital gains that are realized that have to be paid out to investors in mutual funds.
Mutual funds often bring in varying types of income. The challenge lies in the fact that all of these incomes come with varying tax treatments. In the majority of cases, such differences in taxes are passed through to the investors in the mutual fund. As an example, should a mutual fund own a stock for longer than a single year and then sell it to realize a capital gain, then a portion of the investors’ mutual fund dividends would be classified as a long term capital gain. This would permit you to realize the advantages of such types of income’s lower tax rates.
There are varying types of dividends paid out by mutual funds. One of these is ordinary dividends. These cover every type of taxable income besides the long term capital gains. This does not mean that they are always treated as ordinary tax rate income, since some of these dividends will be qualified dividends that receive preferential tax rate treatment.
Some of the distributions that come from your mutual fund could be long term capital gains. These do get the better form of tax treatment. Shorter term capital gains in these funds are generally distributed along with the regular dividends.
Some mutual funds buy into state or local government debts or municipal bonds. This results in a portion of your mutual fund distributions being treated as interest that is tax exempt. These interest payments might still impact social security benefits though, so it is wise to consult a tax professional concerning them.
Should your mutual fund be investing money into the Federal Government’s debt obligations, then these distributions can often be treated as interest paid by the federal government. Such income is not given favorable Federal income tax treatment. It does become exempt from state income types of taxation.
From time to time, mutual funds will issue payments that are not income at all. This is a non dividend distribution. All that it represents is a portion of the money that was invested by you in the first place being returned to you. These distributions usually do not even have to be reported. They must be used in determining the amount of loss or gain incurred when you sell the mutual fund shares, though.
A final mutual fund dividend paid out is a capital gain allocation. These are highly unusual, since the overwhelming majority of mutual funds do capital gain distributions instead. While it is highly uncommon to see such a capital gain allocation, if you do get one, then you will have to use the special Form 2439 that your mutual fund sends to you in dealing with the particular tax rules.