Distributing Funds vs Accumulating Funds: Which is better?

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Distributing Funds vs Accumulating Funds_ Which is better?

It can be challenging to choose between Distributing Funds and Accumulating Funds when you need to choose two funds. And the problem is also the same when you need to compare two Exchange Traded Funds (ETFs).

An accumulating fund (or ETF) will keep the dividends and reinvest them. On the other hand, a distributing fund (or ETF) will distribute the dividends to the shareholders.

At first, it was not clear for me which one was better when I started designing my portfolio. Now, I always prefer Distributing ETFs. In this article, I am going to explain why!

Distributing  Funds vs Accumulating Funds

Most shares pay a dividend to its shareholders. If you hold shares of a company paying a dividend, you will receive cash dividends several times each year. Since a fund is holding many shares, every fund will receive dividends. Once a fund receives a dividend, it will have to give it back to the real shareholders: you!

There are two ways for a fund or an ETF to give the dividends back to the investors:

  1. It can give back the money directly in cash to the shareholders. Such a fund is a Distributing Fund (or ETF), also called an Income Fund.
  2. Or, it can reinvest the dividends directly into the fund, hence increasing its value. Such a fund is an Accumulating Fund (or ETF) or a Growth Fund.

Whether you talk about funds or  Exchange Traded Funds (ETFs) is the same in this context. A Distributing ETF is simply a Distributing Fund traded on the stock market.

We are going to go over the differences between Distributing Funds and Accumulating Funds.

Taxes

Now, capital gains and dividends are often taxed differently depending on which country you are in.

In the United States, you will pay taxes on capital gains and dividends. They are both taxed at different rates unless you hold securities for less than a year. On the other hand, in Switzerland, capital gains are not taxed for private investors. And dividends are taxed as regular income, at your marginal tax rate. Let’s start to see the difference between the two types of funds with Swiss taxes.

Now there is a myth saying that you will not pay taxes on the dividends issued by accumulating funds. This myth is entirely wrong! In Switzerland, you will pay the same amount of taxes regardless if you get the dividend or if it reinvested directly into the fund.

In Switzerland, accumulating funds are considered to have a virtual dividend. And they will be taxed as if they distributed this virtual dividend. The Swiss Tax Authority is keeping track of some ETFs in the ICTAX system. They will use this system to find out the dividends of your ETFs.

If your ETF is not on this list, you can ask them to add the ETF to the list. If your Accumulating ETF is not in the list and you do not ask to add it, your full capital gains are going to be taxed as income!

So, from a tax point of view, there is no advantage to either type of fund. However, it is easier, in Switzerland, to declare dividends rather than virtual dividends since you are sure you will not pay taxes on your capital gains.

To learn more, read my complete guide about taxes in Switzerland.

Taxes in other countries

For other countries, it depends on the tax system.

In the United States, the IRS withhold all the dividends at the source, so there is no difference. For instance, I know that in the United Kingdom, it is also easier to work with distributing funds.

On the other hand, in Belgium, it is more efficient to get an accumulating fund. Indeed, the Belgian tax office taxes dividends on distributing funds, and an accumulating fund allows them to bypass this tax. And in Germany, you will save money by having a distributing fund.

Therefore, it is essential to know your tax system. For most people, it is not an interesting subject. However, if you want to save money on taxes, you should know the details of your country taxes.

Tax Withholding

In many countries, tax services are withholding dividends. It is the case in the United States, the country where most of the world stock market value is. So you will probably have some U.S. securities in your portfolio. If these securities are paying a dividend, the U.S. Internal Revenue Service (IRS) will withhold some of the dividends.

The IRS withholds 15% for U.S. citizens and 30% for non-U.S. citizens. There is an exception for citizens of a country with a tax treaty with the U.S (like Switzerland). In that case, these citizens only get 15% withholding.

Once again, there are no differences between a distributing fund or an accumulating fund for this case. In Switzerland, in both cases, you will be able to declare the withholding with a DA-1 form in your tax declaration. That means that the withheld money will be counted towards what you have already paid in taxes.

For Swiss securities, this is also the same. If you live in Switzerland, you likely have Swiss securities. If they pay a dividend, Swiss tax authorities will withhold 35% of the amount. But, they will not withhold dividends for the accumulating funds. You will still pay taxes on these dividends.

Transaction Fees

When you buy or sell shares of a fund in your broker, you will have to pay some fees for the transaction. For some mutual funds that you directly own from your bank, it may be free to sell and buy shares.

If you have a Distributing Fund and you want to reinvest the dividends, you will have to pay some transaction fees to do it.

However, it is not as bad as it sounds. If you are in the accumulation phase, you will invest almost every month. At this time, you can simply invest the dividends with the new capital. And if you are early retired, you are going to use the dividends anyway.

Fund Fees

The fees of a fund, its Total Expense Ratio (TER), is something fundamental when you compare two funds. And sometimes, there is a significant difference in fees between distributing and accumulating funds.

Indeed, sometimes distributing funds have higher fees than the accumulating funds. It is especially true for European Funds by iShares. A lot of their accumulating funds are cheaper than their distributing funds for the same index.

For instance, for the MSCI World index, iShares offer two funds in Europe:

  • iShares Core MSCI World UCITS ETF (Acc) with a TER of 0.2%
  • iShares MSCI World UCITS ETF (Dist) with a TER of 0.5%

The distributing fund is more than twice more expensive than the accumulating fund. It is a huge difference! Fortunately, there are better funds from other providers. However, if I had to choose between these two, I would use an accumulating fund for once.

You may not realize it, but investing fees are very important. You need to pay attention to them!

Performance

Comparing two funds that have different dividend distribution policy is complicated.

If you directly compare the performance of an accumulating fund and a distributing fund of the same index with the same fees, the performance of the accumulating should be better in the long-run.

It is logical since the dividends are reinvested directly and are compounding over time. But this does not mean that an accumulating fund is performing any better than a distributing fund. Both types of funds have the same performance. It just means that it is more difficult to compare them. In the case of the distributing fund, you will also have some amount of cash that you can use. Of course, if you splurge the dividends, you will be poorer than if you had the accumulating fund. But if you reinvest them., you should have the same amount in the end.

In practice, you should be fine. Most ETF comparison platforms are showing you the performance as if the dividends were reinvested into the fund. For instance, this is what justetf does. It makes it possible to compare the performance of two funds with different distribution policy.

Convenience

The big practical difference between accumulating funds and distributing funds is the inconvenience.

Accumulating Funds are much lazier than Distributing Funds. You do not need to do anything with the dividends. The fund will reinvest the dividends for you.

On the other hand, if you have distributing funds, you will have to do something with the dividends that are sleeping as cash in your account. That means you will have to invest it back into one of your funds.

I do not think it is too bad. At most, you will receive one dividend from each of your funds each month. And it is much more likely that you receive one dividend per fund per quarter since most big funds are paying dividends only each quarter.

Since you should invest every month anyway, it should not be an issue to make a slightly bigger trade. And, we have already seen that for filling the tax declaration, it is generally more convenient to have a distributing fund.

Rebalancing

When you have several funds in your portfolio, you may want to rebalance the funds periodically.

That means that if one fund is performing worse, you will need to buy more shares of it to bring the balance back to your target allocation. On the contrary, is one fund is performing well, you may want to stop investing in it or even sell some shares until your allocation is back to normal.

Receiving the dividends can give you an edge for rebalancing. Since you have extra cash at hand, you can invest this cash based on where your allocation is out of balance. That means that the dividends from your most performing fund could be reinvested in the worst performing one, bringing back balance. Distributed Dividends can help you rebalance!

Financial Independence

Now, let’s go over the main difference between Distributing Funds and Accumulating Funds. Whether you hold one or the other can make a tremendous difference when you reach Financial Independence.

If you are financially independent and live on your net worth, you will need to use your principal to cover your expenses. For the sake of the example, let’s say you need 4% of your principal to cover your expenses. And let’s say that you get 2% dividends from your funds.

If you have only Accumulating Funds, you will need to sell 4% of your principal every year. All your expenses are going to get covered by selling your funds. If you have Distributing Funds, you can cover half of your expenses by selling the funds and half of your expenses using the dividends.

There are two differences here. First, with Accumulating Funds, you will pay more transaction fees since you are going to have to sell more shares. And receiving dividends from a fund is free, but selling some shares is not! But most importantly, you will have much more capital gains. You will not have any income but only capital gains.

In some countries, this is not so bad. But in Switzerland, capital gains are not taxed unless you are considered a professional investor. And you are a professional investor if capital gains are more than 50% of your income. Therefore, to avoid taxes on that, you need your dividends to cover at least 50% of your income. It is crucial. And this makes it essential to hold distributing funds in Switzerland!

If you are not in Switzerland, it will depend on your taxation system. But in most countries, it is better to get dividends than to get capital gains. And therefore, in most countries, it is better to hold distributing funds rather than accumulating funds!

FAQ

What is a distributing fund?

A distributing mutual fund is a fund that passes the dividends directly to the shareholders. Generally, shareholders will receive dividends every quarter.

What is an accumulating fund?

An accumulating fund is a fund which uses the received dividends to purchase more shares of the companies. The shareholders of the funds will never receive a dividend.

Should I prefer distributing or accumulating funds?

This depends on your country. You should prefer the funds that are the most tax-efficient. In most countries, this will be distributing funds. But in some European countries, this will be accumulating funds.

Conclusion

Overall, Distributing Funds are superior to Accumulating Funds. They will be much more useful once you are financially independent and ready to retire. You will need cash to cover your expenses. And the dividends are going to do exactly that. And they are generally more convenient from a tax point of view. They can also help you rebalance your portfolio more efficiently.

Contrary to some popular belief, accumulating funds are not more tax-efficient than distributing funds. You will pay the same taxes regardless of which you use. And in most countries, it is easier to declare dividends for a distributing fund than for an accumulating fund.

The only advantage of an accumulating fund is the convenience it offers. However, I believe that this convenience is a bit too lazy. You would be better off investing the dividends according to your allocation rather than blindly allocating it to each fund that generates them.

For all these reasons, I strongly believe that distributing funds are a much better option than accumulating funds. When I compare index funds, I generally only consider distributing funds. Only when there is no good distributing fund available for an index, will I consider accumulating funds.

Now, this stands true for Switzerland. In some other countries, it will not be true. In Belgium, it is better to hold accumulating funds. On the other hand, in Germany, it is also better to hold distributing funds. And in the United States, it makes no difference. Therefore, you must know the details of your tax system if you want to save money!

To learn more about funds, read how to choose index funds and ETFs. Or, if you already decided which fund you want, read how to buy an ETF with IB.

What about you? Which kind of fund do you prefer and why?

Mr. The Poor Swiss

Mr. The Poor Swiss is the author behind thepoorswiss.com. In 2017, he realized that he was falling into the trap of lifestyle inflation. He decided to cut on his expenses and increase his income. This blog is relating his story and findings. In 2019, he is saving more than 50% of his income. He made it a goal to reach Financial Independence. You can send Mr. The Poor Swiss a message here.

36 thoughts on “Distributing Funds vs Accumulating Funds: Which is better?”

  1. Hi Mr. The Poor Swiss

    “In some countries, this is not so bad. But in Switzerland, capital gains are not taxed unless you are considered a professional investor. And you are a professional investor if capital gains are more than 50% of your income. Therefore, to avoid taxes on that, you need your dividends to cover at least 50% of your income.”

    That is no entirely true. The Federal Tax Administarion published several guidelines concerning the application of tax laws in Switzerland (in german called “Kreisschreiben”). In the present case the “Kreisschreiben Nr. 36, Gewerbsmässiger Wertschriftenhandel” is of interest.

    If you fulfill the five criteria listed on p. 3 of this “Kreisschreiben”, you will certainly not be treated as a professional investor. Regarding FI, the third criterion could be an obstacle for you if your capital gains exceed 50% of your income:
    “Das Erzielen von Kapitalgewinnen aus Wertschriftengeschäften bildet keine Notwendigkeit, um fehlende oder wegfallende Einkünfte zur Lebenshaltung zu ersetzen. Das ist regelmässig dann der Fall, wenn die realisierten Kapitalgewinne weniger als 50% des Reineinkommens in der Steuerperiode betragen.”

    If you do not fulfill this criterion or at least one of the other criteria, the tax authority will have to examine in more detail whether you are a professional investor or not. In order to do so, the Federal Supreme Court of Switzerland introduced a lengthy list of criteria that have to be considered (see pp. 4 ff.).

    With regard to the above mentioned “Kreisschreiben” the fact that more than 50% of your income comes from capital gains does not automatically cause you to be treated as a professional investor. But it will certainly implicate a more detailed analysis by the tax authorities.

    1. Hi Michael,

      Thanks a lot for the explanations! It seemed it is more complicated than I thought.
      I was thinking only this 50% rule would be enough.

      If it’s analyzed by the tax authorities, it is in fact quite possible that I would not be considered as a professional investor if I were FI without dividends. This is quite interesting. I think I should contact my tax administration office.

      Thanks a lot for letting me know this!

  2. Hi!
    In Spain, you do not pay taxes for accumulation funds until you sell your shares. So, you keep investing for decades paying 0 taxes and the money you don’t pay on taxes keep growing, compounding and making even more money for you.

    Also, rebalancing is tax free because the law doesn’t count that as “selling” funds.

    Sorry for my english but my point is that every country is different and people need to know their country law and what works better for themselves.

    Thanks!

    1. Hi Hamster on Fire :)
      Nice name!

      That’s interesting! I wish we had the same system in Switzerland, we could save a lot!
      That’s also nice that they do not count rebalancing as selling :)
      It seems that Spain Tax System is quite smart about investing.
      Do you pay a lot of taxes in Spain?

      I completely agree with you! It is necessary to know tax laws for investing. It will be different from country to country. I should have put more emphasis on that point!

      Thanks a lot for stopping by!

  3. Although people in Czech have a lot things to complain about, taxing of investments is pretty friendly: both short term capital gains and dividends are taxed 15%, but if you sell after three years or later, there is no tax for capital gains (and it used to be only six moths)! So I wish the would be a wider offering of accumulating funds ;-).
    Thanks for mentioning that accumulating funds can be taxed in their home country – I have to watch for it!.

    1. Hi Jiri,

      Thanks for sharing! That’s very interesting!

      You say that you want more acc. funds but you also say that dividends are taxed 15%. Are dividends not taxed on accumulating funds?
      I know some countries are like this. I wish we had the same system :)

      Thanks for stopping by!

      1. Hello, if a fund doesn’t pay dividends (just increases NAV like total return funds), I simply don’t tax them. Taxing dividends from individual holdings inside the fund thus depends on the fund domicile legislation or whether dividends are taxed at a source.
        Czech investment funds pay a 5% capital gain tax, but I’m not sure whether it applies to dividends too.

  4. What about the upcoming inability of Swiss investors to buy US-domiciled ETFs that will kick in on Jan. 1, 2020?

    Will Swiss investors still be able to have an accumulating US-domiciled ETF after this date? They will effectively be automatically changing dividend cash into more shares. Will this be contrary to the Finsa law that will come into play?

    1. Hi DM,

      We still do not know if we are going to lose access to U.S. ETFs or not. There are contrary points of view on the subject. From what I have read in the documents, we should be able to keep it. But then, IB could still decide to stop it to make it simple for them.

      So, we will have to wait until next year to be sure :) I will definitely post about this, or update my previous post about this.

      Thanks for stopping by!

  5. A little clarification: For those living in the US, dividends are taxed like ordinary income (marginal rates) if you haven’t owned the dividend-paying stock long enough. Otherwise, they are taxed at special rates which are lower than the marginal rates. This means that taxes are not withheld at the source. This is the reason why there are no accumulating ETFs in the US.

    On the other hand, the US withholds taxes on dividends earned by non-resident aliens at 30% or some other fixed lower treaty rate. This makes non-US domiciled ETFs like Irish-domiciled accumulating ETFs possible since the dividends it received are taxed at the source.

  6. Thank you for all your articles. I’ve been binge reading for two days now. I greatly appreciate the “fail” articles because we all make mistakes when starting, and I feel some finance bloggers do not share those. I have and am still making lots of mistakes. One of them is that I only hold SWDA. If you stupidly (after reading this arcitle) bought SWDA 1.5 years ago (cumulative I’m at 22000 USD) and made an ok profit, would you sell SWDA before starting to invest in VWRL or would you just keep SWDA as is and invest in VWRL from now on?

    Considering here, that you’d have to pay fees on selling and buying and that the fees from my broker (second big mistake, Postfinance) are horrible.

    I’d appreciate the feedback!

    1. Hi cluesless,

      Thanks for the kind words! I am really happy people are enjoying my articles :)

      I do not think that holding SWDA is a bad mistake. The only thing it’s missing is some allocation to emerging markets (EM). Instead of selling, you could start investing in some EM ETF.
      Considering that you are at Postfinance, I would not sell. SWDA is really not so bad. I prefer distributing funds, but there is almost no difference between distributing and accumulating in Switzerland.
      You could consider starting/continuing investing with another broker though.

      Thanks for stopping by!

  7. Hi Mr Poor Swiss,

    Thanks a lot for this article, it has been very helpful since i started investing.
    However i still have a doubt. I have some acc etfs but i never know when and by how much the dividends are payed. For my dist etfs it’s straightforward because my broker (Degiro) notifies me, but that doesn’t happen for the acc ones.

    Do you know if there is a source in the web with this kind of information?

    Once more thanks a lot for you effort by sharing your investing experience.

    1. Hi Pedro,

      Normally, each of the fund providers will give you the distributions information for your fund. For instance, if your fund is with Vanguard, you can go to their site, check the ETF you use and you will be able to see the distributions.

      But I do not know of any free resource where you can check that for each fund.

      Thanks for stopping by!

  8. Hi,

    Great content! I am just going to start investing and needed information about which broker to use, I will go with Degiro.

    Let’s put the case I choose the Degiro Custody. With accumulating ETFs I would not incur in the dividend fee right? Maybe that is an advantage vs distributing if using Degiro Custody.

  9. Hello!

    If I understood correctly, with distributing funds you pay taxes twice (first in the period of accumulation when you receive the dividends) and second when you reach the Finance Independence and you cover the 2% of your expenses with dividends. Am I right?

    Thank you for clarifying

    1. Hi Loko,

      I do not think that’s correct. With distributing funds, you will pay taxes on each dividend. But not twice.
      However, the dividends in the FI phase will be useful to cover your expenses.

      Does that make sense?

  10. Not sure if i got all this right. As a Swiss citizen, will the tax you pay in your dividends on for example a S&P500 have negative impact on your compounding effect? I plan to compound 50k for 20years, so important nothing impacts this. People spend much time trying to save on the TER for ETF’s but is the tax the overruling negative impact on your compound effect?
    Additional question: What is likely to have negative impact on the $S&P500 ETF compounding effect as a Swiss? And is there an advantage in buying EUR or CHF ETFs over USD ETF’s.
    I use Degiro and my income is CHF. Considering IB but it seems less beginner friendly so didn’t switch yet.

    1. Hi Tim,

      I am not sure I understand your question. In the stock market, two things are compounding: dividends and capital gains (when unrealized). Generally, they are counted together as the performance of the stock market.
      So, yes, the tax will eat a part of what you call the compounding effect.

      If you get a U.S. ETF, you will pay taxes on the dividends. 15% will be withheld directly by the Swiss Tax Office. This can be reclaimed as already paid in your tax declaration.
      From a tax point of view, there is no difference in having EUR, USD or CHF ETF. What is important is the domicile of the ETF.

      IB is definitely less friendly. It will help you save some extra money on dividends by using U.S. ETF. You can use it if you really want to optimize. However, if you have only 50K, it may not be great since you will have to pay custody fees for several years.

      Thanks for stopping by!

  11. Hi Thepoorswiss,
    Thanks a lot for such useful information!!
    One idea/question. You say that you don’t pay for capital gains in Switzerland until it’s more than 50% of your salary. Does it mean that we could have an accumulative ETF so that we pay fewer fees or maybe because it’s the only one available at that point, and then at some smart point, change it into a fund (same or different) that distributes dividends? e.g., before the gain would be more than 50% of the salary? Does this make sense? can you help me elaborate this way?

    Basically, I’d like to buy an ETF that doesn’t have a good option for a distributing option in Interactive Markets.

    Again, thank you!!
    César

    1. Hi Cesar,

      Yes, this would probably work. During the accumulation phase (when you have a salary), you could imagine having an accumulating option since the dividends won’t be really useful and there are no tax differences.
      And then, in the distribution phase (when you are withdrawing), you could switch to a distributing option. Now, selling and buying may trigger some transaction costs but with a good broker, this should not matter.
      On the other hand, this will trigger some possible large capital gains. So, you would have to worry about that. This means you have to do that when you still have a salary.

      Now, in most cases, we do no have to worry about capital gains tax in Switzerland unless we are a real professional investor. But I would still be careful in not generating too many capital gains after I retire.

      Thanks for stopping by!

    2. Hi Cesar,

      Yes, this would probably work. During the accumulation phase (when you have a salary), you could imagine having an accumulating option since the dividends won’t be really useful and there are no tax differences.
      And then, in the distribution phase (when you are withdrawing), you could switch to a distributing option. Now, selling and buying may trigger some transaction costs but with a good broker, this should not matter.
      On the other hand, this will trigger some possible large capital gains. So, you would have to worry about that. This means you have to do that when you still have a salary.

      Now, in most cases, we do no have to worry about capital gains tax in Switzerland unless we are a real professional investor. But I would still be careful in not generating too many capital gains after I retire.

      Thanks for stopping by!

  12. Hi. Thanks for your blog, it is+has been a great resource for me to finally start investing my savings!

    I have one question regarding the distributing funds: since my degiro account is in CHF and most of my ETFs (VWRL) are in USD, am I not losing money with the currency exchange when I manually reinvest my dividends?

    Thanks!

    1. Hi Mark,

      That’s a good question. With DEGIRO, I guess you are going to lose some money on dividends for conversion indeed. It could be a point in favour of accumulating funds.
      With Interactive brokers, we do not have this issue since we can keep cash in multiple currencies.

      Thanks for stopping by!

  13. Great article and depth. As a Belgian investor working mainly with ETFs I have historically always preferred accumuling funds from a tax perspective. As we have been living 4 years in Switzerland (expat) and now we will permanently stay in Switzerland and shift our retirement portfolio to a swiss broker, this is extremely useful information! Thanks a million!

  14. Hi!
    “Indeed, sometimes distributing funds have higher fees than the accumulating funds. It is especially true for European Funds by iShares. A lot of their accumulating are more expensive than their distributing funds for the same index.”
    Is there a mistaken inversion here?

      1. Hi Mr.The Poor Swiss,
        maybe here there is also somethings that depends on the broker:
        “There are two differences here. First, with Accumulating Funds, you will pay more transaction fees since you are going to have to sell more shares. And receiving dividends from a fund is free”…
        With ‘DEGIRO Custody” there is the ‘dividend fee’ that was already discussed above, so receiving dividends depends on the broker, right?
        Cheers!

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