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This move can trim or erase a tax bill if you had to sell stocks at a loss this year


In a rough year for almost all asset classes, many investors are likely facing selling at a loss. But a rule known as tax-loss harvesting can help soften the blow by lowering or erasing a tax bill this year or in the future. There aren’t many winners in the market this year – the S & P 500 is down 19% year to date, bonds have slumped on an annual basis and even bitcoin has fallen more than 55% in 2022. That means many investors will have to sell assets at a loss, going against one of the most basic investing rules, to buy low and sell high. But those losses can be an important piece of a tax strategy that helps offset capital gains this year or for many years in the future. “[Tax loss harvesting] does help avoid capital gains taxes or helps offset capital gains taxes,” said Judson Meinhart, senior financial advisor and manager of financial planning for Parsec Financial in Winston-Salem, N.C. “It’s a way to diversify while also keeping your taxes lower or without taking a huge tax hit as well.” How tax loss harvesting works Investors who have sold assets at a loss this year from a brokerage account can use that to offset or even completely erase any capital gains taxes owed. If your losses exceed your capital gains or you didn’t have any, you can deduct up to $3,000 of income from your federal tax bill. Any remaining losses can be carried forward to help cancel out future capital gains indefinitely. “I tell people it lasts as long as you do, and at your death it goes away,” said Tim Steffen, director of tax planning at Baird in Milwaukee, Wisc. That means if you are going to sell something that will trigger a large capital gain, it may be a good idea to sell some assets at a loss at the same time. “If we sell those and we sell your gains, you are kind of resetting your basis on everything,” said Adam Markowitz, an enrolled agent and vice president at Howard L Markowitz PA, CPA in Leesburg, Fla., adding that there’s no cost to the process in many cases. Because you can carry forward losses, in years where stocks are down you should also look ahead and see if you have any future sales planned that would include a capital gain tax. “I’m harvesting losses now not even so much to capture them now as much as it is to capture them next year,” said Markowitz. The wash rule There are some rules to keep in mind. If you sell stocks and harvest the losses for tax purposes, there is a wash rule that means you cannot repurchase the asset for 30 days. This means you can’t sell a position in a falling stock and immediately buy it back for less money the next day while also harvesting the loss. If you have stocks that you want to hold long term, however, it can still be beneficial to sell some of the position and plan to repurchase it on day 31. “If you know it’s a stock that you really like and you’re going to hold onto it, you might as well take advantage and create that tax asset to keep you from paying additional tax on other capital gains,” said Tim Pagliara, chief investment officer of CapWealth. You could also find ways to keep your allocation intact if you sell a stock for a loss that you want to buy back later. For example, if you sold Citigroup, which is down nearly 25% this year, you could immediately buy a financial exchange-traded fund that holds the asset and gives you exposure to the industry. It may also make sense to switch to a similar name that’s better positioned for future growth. Evercore ISI in a Nov. 6 note made a list of such stocks that it sees as good buying opportunities if you sold a similar name for tax loss harvesting. If you have positions that you want to exit entirely, that’s also a good opportunity to get some losses on your portfolio for future use while reallocating your funds to something you’re more bullish about. There’s one important caveat to the wash rule – it doesn’t apply to cryptocurrency. This means you can sell a crypto position and immediately buy it back, potentially at a lower price than you sold it for and reap the tax offset benefits. If you do have capital gains to offset and you hold crypto, it’s a good place to look to see if you can utilize the position for capital gains – crypto tax losses can be used against any other assets. When tax loss harvesting doesn’t make sense Though having losses on the books can be a huge help to balance future capital gains, it doesn’t make sense to sell assets at a loss to trim your tax bill if you don’t have gains to offset because of the $3,000 limit. “The rule of thumb we always use is to make your investment decisions first, then tax decisions,” said Steffen. “So, as you’re looking at your portfolio, just because you have something that’s at a loss doesn’t necessarily mean you should sell it.” Because of this, it may make sense to consult both a tax professional and a financial advisor to ensure you’re using tax loss harvesting as efficiently as possible. “In my estimation it should be looked at every single year not just as ‘what are we doing this year,’ but for the life of assets that have appreciated over a long period of time,” said Markowitz, adding that the goal is to plan to liquidate those assets and pay as little in taxes as possible. It makes sense to look seriously at these plans this year because the Tax Cuts and Jobs Act will expire in 2025 and it’s unclear now what will replace it – that could mean that capital gains taxes, currently at 20%, go up. If you’d like to take advantage of tax-loss harvesting this year, it makes sense to start looking at your portfolio and identifying places to sell and buy now as we’re nearing the end of 2022. Starting the process now will give you enough time to repurchase any stocks you have to wait for the wash-rule so that you can complete rebalancing by the end of the year.

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