The purpose of this strategy is to offset realized gains, lowering your tax bill and potentially improving after-tax returns. However, this only works with taxable investment accounts.
Implementing the appropriate investment strategy requires taking into account both your individual investment goals and financial situation. Your Wealth Advisor or tax professional can assist with understanding potential advantages or drawbacks.
What You Need to Know
Tax-loss harvesting entails selling investments that have lost value since you bought them and using their losses to offset capital gains elsewhere in your portfolio, lowering overall taxes due. Any unused losses can carry forward into future years.
Your individual circumstances and investment goals play a vital role in determining if tax-loss harvesting is worth your while, so speak to both a financial advisor and tax professional about its possible advantages.
Keep in mind that you can only deduct losses of up to $3,000 annually from your taxable income and only in taxable investment accounts – not tax-advantaged ones like IRAs or 401(k). Furthermore, make sure you report realized gains and losses accurately on your annual tax return, while adhering to the Canada Revenue Agency (CRA) wash-sale rule by not purchasing similar securities within 30 days after selling one and thus losing any benefits associated with harvesting losses.
Identifying Losses
Selling at a loss and then reinvesting it can reduce the cost basis for future gains and help offset your tax liability – an approach particularly advantageous if you have large realized capital gains or fall within higher tax brackets.
However, it can be challenging to detect losses when investing in individual securities at scale. A financial advisor can help you balance this strategy against your overall investment objectives and risk profile.
When offsetting losses with gains, it’s essential to distinguish between short- and long-term gains. Short-term gains are subject to tax at ordinary income rates while longer term capital gains qualify for the reduced capital gains rate.
Offsetting Gains
If you sell stocks that have increased in value while simultaneously selling investments with losses, your total realized gain may be lessened – this process is known as offsetting.
Realized capital losses may offset up to $3,000 of ordinary income each year on your federal tax return and any excess amounts may be carried forward to offset future gains. If, however, you violate the IRS’ wash sale rule by selling an investment at a loss and purchasing something substantially similar within 30 days prior or post sale, you won’t be able to use these losses against future gains.
As with any financial decision, tax-loss harvesting must be part of an overall plan that addresses all aspects of your finances. Your Wealth Advisor can assist in understanding how this technique could fit into your overall investing plan.
Reinvesting Losses
Tax-loss harvesting should be tailored specifically to each investor. It can be especially helpful for those expecting to move into higher tax brackets soon due to promotions, retirement benefits or rising income levels; and can prove even more fruitful with more diverse portfolios as they could potentially uncover more opportunities for loss harvesting.
Capital losses on assets held in taxable accounts can be used to offset any realized gains for the year, and any excess – up to $3,000 annually – can be applied against ordinary income on your federal tax return.
In taxable accounts, one key aspect of reporting realized gains and losses accurately is keeping track of each security’s cost basis. Many robo-advisors and traditional brokerages now keep this track for their clients automatically, alleviating them from this task themselves.
