What it works out
Tax drag is the growth lost because tax is taken along the way. When part of each year’s growth is paid in tax, that part is no longer there to grow in the years that follow. The loss is the tax itself and everything the tax would have earned.
The calculator compares three cases for the same sum, the same rate and the same years: no tax at all; tax taken from each year’s growth; and tax taken once, at the end, on the whole gain. At the same tax rate the third never leaves less than the second, because the money stays invested until the end. The gap between them is the effect of timing alone.
It uses one tax rate, which you enter. It holds no country’s rates, bands or allowances, and it cannot say what anyone owes.
What the sum leaves out
- Real systems tax interest, dividends and gains differently, give allowances, and may offer accounts on which tax is not charged or is charged later. None of that is modelled.
- A loss is not relieved. When growth is zero or negative, no tax is taken and none is given back.
- One steady rate of growth is used. Real growth varies and can be negative.
- A charge taken every year drags in the same way as a yearly tax: it is money that stops compounding.
Questions people ask
- What is tax drag?
- The reduction in growth caused by tax being taken as the growth arises, instead of at the end or not at all. It is larger the higher the tax rate, the higher the growth and the longer the time.
- Why is tax at the end different from tax each year, at the same rate?
- Because of compounding. Money paid in tax early cannot grow afterwards. When the tax is taken only at the end, the whole sum compounds for the whole time; the tax is then a share of a larger gain, and what is left is still more.
- Which tax rate goes into a tax drag calculator?
- Your own: the rate that applies to growth of the kind you have in mind, under the rules where you live. Those rules are published by your tax authority. This page does not hold them.
Arithmetic on figures you supply, for study. Educational information, not investment advice or a recommendation to trade. It takes no account of your circumstances, and nothing typed into the calculator is sent or stored.