Broker Check
Tax-Loss Harvesting

Tax-Loss Harvesting

April 01, 2024

Frequently, investors look at how their assets have performed and identify profitable and unprofitable assets. Tax-loss harvesting is a strategy where you identify and apply capital losses to your capital gains (or vice versa) to offset the taxes you owe on the capital gains. The credit that is then claimed from this can be applied against taxes accrued from selloffs of profitable investments. Any remaining credit can be used to reduce personal income tax paid in the current and future years, up to $3,000 annually or $1,500 each for married taxpayers filing separately.

Tax loss harvesting is normally conducted at the end of the year when the annual incomes are calculated. For example, you review your portfolio and notice that you would realize a gain on some stocks and a loss on other stocks. You would begin the TLH process by selling some of your negative stocks to realize a capital loss. You would then apply the capital losses to your capital gains to offset the taxes you owe on the capital gains. If your capital losses exceed the capital gains, the remainder can be applied to your personal income tax. The investments for your TLH must be approved securities – including stocks, bonds, and ETF shares – that can be traded on the market.

However, there are several pitfalls that can complicate the process of a tax-loss harvest. The wash-sale rule prevents you from using your losses to buy the same security (or a “substantially identical” one) within 60 days of the sale. This includes 30 days before and after the day a capital loss is realized. The IRS will prevent you from performing a tax-loss harvest with your capital loss.

Secondly, a tax-loss harvest does not cancel your taxes – it only defers them. While a TLH does reduce the tax bill for the current year, future tax bills may rise if your portfolio sees a capital gain. This arises due to the inherent nature of tax-loss harvesting – by taking a realized loss, the cost basis of your portfolio decreases. For example, in a $10,000 portfolio, performing TLH and realizing a capital loss of $2,000 would decrease the cost basis of the portfolio to $8,000. If the portfolio has strong performance the following year, increasing to $12,000, and the investor sells the portfolio, the investor will have to pay tax on $4,000 of realized gains, as opposed to paying tax on $2,000 of realized gains. By investing the funds that would have otherwise would have gone into paying the tax bill, you can take advantage of the tax deferral to grow your money. Accurately applying this strategy to a portfolio across a multitude of years can potentially have a massive impact on your finances.

With the complexities of the IRS tax code amongst other restrictions, performing TLH as an individual investor can be extremely challenging. However, together with Avantax Wealth Management, our broker-dealer, our firm has the infrastructure, background, and knowledge needed to perform a tax-loss harvest efficiently and correctly. Give us a call, drop by our office, or complete a request form to start your journey toward potential savings on your investments.

Additional Resources:

Charles Schwab - How to Cut Your Tax Bill with Tax-Loss Harvesting

NerdWallet - Tax-Loss Harvesting: What It Is, How It Works

Investopedia - Pros and Cons of Annual Tax-Loss Harvesting

Investopedia - How Tax-Loss Harvesting Works for Average Investors