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The distributions are the gains the fund made through selling off shares or dividends/interests some of the stocks/bonds in the fund earned. They have to be distributed to the investors in the fund.

You can choose to be paid cash or have the distributions reinvested. You pay taxes on those distributions. Some are long-term gains, some are short-term gains.

When you sell X number of shares at some price you will recive a certain amount of proceeds. From this amount you will subtract your cost basis to determine how much capital gains (or loss) you have. This basis includes the checks you send to the fund and it includes all those distributions that were reinvested.

Just remember that for Schedule D purposes you have to separate the shares that you owned for less than a year from those you owned longer than a year.

Does that help. I just learned this in the last month myself.

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