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Tax-Loss Harvesting

What is Tax-Loss Harvesting?

Tax-loss harvesting is a portfolio management technique where you sell an investment at a loss to offset gains you’ve realized. Tax-loss harvesting reduces your overall tax burden by reducing your net capital gain. This strategy is particularly beneficial for offsetting short-term capital gains, which are taxed at the federal income tax rate and at a higher rate than long-term capital gains.

Tax-loss harvesting is one of the critical tax optimization strategies we use in our wealth management services. Because taxes can significantly reduce your portfolio return, we aim to optimize your portfolio for tax purposes.

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Personal Strategy

Tax-loss harvesting is part of a three-pronged approach that also includes asset location and tax efficiency:

First, we strategically place investments in their most tax-efficient account types. This strategy is ideal for investors with both taxable and tax-advantaged retirement accounts in their portfolios.

Then we employ tax-loss harvesting, where we intentionally sell securities at a loss to turn an unrealized loss into a realized loss. Not only can this strategy offset any realized capital gains you have, but it can also create a capital loss deduction of up to $3,000 (IRS limit, subject to change).

Finally, we build your portfolio using individual stocks and tax-efficient ETFs rather than mutual funds to maximize tax efficiency.

What To Expect

When you sell an asset for a gain in a taxable brokerage account, you’re likely to be subject to capital gains taxes. Assets held for less than one year are considered short-term capital gains and are taxed at your normal income tax rate. Assets held for more than one year are taxed at long-term capital gains rates of 0%, 15%, or 20%, depending on your taxable income. (Rates are set by the IRS and are subject to change.)

But capital gains can be offset by capital losses, which are the result of selling an asset at a loss. In fact, not only can you offset capital gains, but the IRS allows you to deduct up to $3,000 in net capital losses — in other words, your capital losses exceed your capital gains.

Tax-loss harvesting is a strategy to intentionally create a capital loss to offset a capital gain. For example, let’s say you sold a security for a capital gain. You might sell another security at a loss to turn an unrealized loss into a realized loss. Doing so would reduce your net capital gains, and therefore, reduce the capital gains taxes you’ll owe.

You may then use the proceeds of the sale to reinvest in a similar security, but there’s a catch. The federal government’s wash sale rule prevents investors from selling a security and then buying a new “substantially identical” security within 30 days. However, you can either reinvest those proceeds into another security that isn’t considered substantially identical or simply wait over 30 days to purchase a substantially identical security.

While you won’t notice a significant difference in your portfolio over the long run with tax-loss harvesting, you may enjoy a smaller capital gains tax bill at the end of the year.

Fee Structure

One of the downsides of tax-loss harvesting is that it can result in increased transaction fees from buying and selling securities. But at Personal Capital, there are no commissions and our tax-loss harvesting services are included in the cost of our wealth management services. Our all-inclusive wealth management fee starts at 0.89% for wealth management clients with portfolios of less than $1 million.

Additional Resources

Tax-loss harvesting can be a complex process. But it’s made simpler with knowledge and support. Check out these resources to keep learning, and sign up for your free Personal Capital Dashboard to improve your financial management.

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