I am still in the accumulation phase.
In my taxable accounts, I do not automatically re-invest distributions. I take them in cash and use them to help with rebalancing. That is, if something that has gone way up pays a distribution, I will use the money to buy shares in a laggard.
In my tax-advantaged accounts, I do automatically re-invest distributions. Since these are mostly bond funds that pay monthly distributions and there are no tax reporting consequences, I think this is the thing to do.
If I was in the decumulation phase, I would probably just use the distributions to pay my expenses.
Distributions could be dividends or capital gains. Tax efficient mutual funds like index funds usually do not pay much in the way of capital gains, but that was not always true. The losses in the stock market in recent years means these funds have built up some internal losses that they can use to offset gains. You can look up the history of the distributions for your fund at the fund's web site.
I saw on Vanguard that my current setting is to reinvest capital gains in all of my funds. I didn't even know what this meant, but after a bit of research I figured out this was the decision on what to do with profit from a stock that was sold at a higher price than it was bought.
Do not confuse a capital gain distribution of which you have no control (the fund just creates it and gives it to you) and a realized capital gain or loss that you create when you sell shares yourself. It is the first (the distribution) that this re-invest question is about.
See also: http://www.bogleheads.org/wiki/Wheth...axable_Account