Tax-Loss Harvesting: A Smart Way to Lower Your Investment Taxes
If you’ve ever sold an investment for a gain and had to pay taxes, you know how frustrating that can be. But what if there were a way to use losing investments to offset those taxes?
That’s where tax-loss harvesting comes in. It’s a powerful strategy that can help reduce your tax bill and improve your after-tax returns over time.
What Is Tax-Loss Harvesting?
Tax-loss harvesting means selling investments that have gone down in value to create a capital loss. You can then use that loss to:
- Offset capital gains (profits from investments that went up)
- Reduce your taxable income (up to $3,000 per year)
- Carry unused losses forward to future years
It’s a way to turn a not-so-great investment into a tax benefit.
How It Works
Let’s say you bought a stock for $10,000, and now it’s worth $7,000. If you sell it, you’ve created a $3,000 capital loss.
If you also sold another investment with a $3,000 gain, the two cancel each other out—so you pay no tax on the gain.
If you don’t have any gains this year, you can use the $3,000 loss to reduce your income. And if you have more losses than that, you can carry them forward to future years.
Watch Out for the Wash Sale Rule
One important rule to remember is the wash sale rule. This says you can’t buy the same (or substantially identical) investment within 30 days before or after selling it at a loss—or the IRS won’t let you claim the loss.
To stay in the market while avoiding a wash sale, you can:
- Buy a similar but not identical fund (for example, swap one S&P 500 fund for another)
- Wait 31 days to repurchase the original investment
When Does Tax-Loss Harvesting Make Sense?
This strategy works best if you:
- Have a taxable investment account (not a 401(k) or IRA)
- Have large gains you want to offset
- Are in a high tax bracket and want to reduce taxable income
- Own investments that are down but don’t want to hold them long-term
It’s especially helpful in volatile markets, when some investments temporarily dip in value.
Why It’s Not for Everyone
If you’re in a low tax bracket or only invest in retirement accounts, tax-loss harvesting may not help much. And if you don’t have gains to offset, the benefit may be smaller.
Also, it’s important not to make decisions just for tax reasons. Make sure selling an investment still fits your long-term strategy.
The Bottom Line
Tax-loss harvesting is a smart tool that can reduce your tax bill and keep your investments working for you. When done carefully, it helps turn market losses into long-term gains.
Want help identifying tax-saving opportunities in your portfolio? Schedule a free consultation and we’ll explore what strategies make sense for you.
*We believe the information provided is accurate, but it’s not intended as tax or legal advice and shouldn’t be used to avoid federal tax penalties. For guidance on your specific situation, please consult your own tax or legal advisor. If you’re doing estate planning, it’s important to work with professionals, including your attorney or tax expert. This content does not include specific investment advice or recommendations to buy or sell any securities. Also, while strategies like asset allocation and diversification can help manage risk, they do not guarantee profits or protect against losses in a declining market.
