Have your stocks taken a hit with recent market volatility? You’re not alone, but there’s a silver lining. With the right approach, like tax loss harvesting, you can turn those losses into an opportunity to reduce your tax bill and rebalance your portfolio at the same time.
Tax loss harvesting is a smart financial strategy that we often recommend at ACap Advisors & Accountants. It not only helps lower your taxable income but also strengthens your long-term investment plan. In this article, we’ll explain what tax loss harvesting is, how tax-loss harvesting works, and how you can use it to build a more resilient, tax-efficient portfolio.
What Is Tax Loss Harvesting?
Tax loss harvesting is the practice of selling investments that have declined in value to intentionally realize a capital loss. These losses can then be used to offset capital gains elsewhere in your portfolio, ultimately reducing your taxable income.
It’s a strategy that not only lowers your tax liability but also keeps your overall investment strategy on track. And even if you don’t have gains this year, harvested losses can still be valuable by offsetting up to $3,000 of ordinary income annually, with any remaining amount carried forward indefinitely.
How Tax-Loss Harvesting Works: A Real Example
Let’s say a client owns shares of both Google and Amazon. Earlier in the year, they realized a $5,000 gain by selling Google. To offset the taxable gain, they sold Amazon shares at a $4,000 loss. As a result, instead of paying taxes on the full $5,000 gain, they only had a $1,000 net taxable gain.
It’s a practical way to reduce taxes while maintaining exposure to the market, and it highlights why tax loss harvesting strategies can be so effective, even during volatile times.
Tax Loss Harvesting Rules You Need to Know
While tax loss harvesting offers real benefits, there are important tax loss harvesting rules you need to follow.
The biggest rule to be aware of is the wash sale rule. If you sell a security at a loss and buy the same or a substantially identical security within 30 days before or after the sale, the IRS will disallow the loss.
While the disallowed loss doesn’t disappear (it gets added to the cost basis of your new shares), you lose the immediate tax benefit for the current year.
One way around this? Replace the investment with something similar but not identical. For example, instead of rebuying Apple stock immediately after selling it at a loss, you could buy a technology ETF that includes Apple. This keeps your sector exposure while avoiding the wash sale issue.
A fun fact: as of today, the wash sale rule doesn’t apply to cryptocurrencies. That may change in the future, but currently, it offers a unique opportunity for tax loss harvesting in digital assets.
Is There a Tax Loss Harvesting Limit?
There is no limit on how much you can harvest in losses, but there are limits on how much you can use to offset ordinary income. If your capital losses exceed your capital gains, you can deduct up to $3,000 of the remaining losses against your ordinary income each year. Any unused losses can be carried forward indefinitely to offset future gains or income.
For example, if you harvest $7,000 in losses this year but have no capital gains, you could deduct $3,000 from your income this year and carry forward the remaining $4,000 for future years.
Tax Loss Harvesting Strategies for Long-Term Success
Tax loss harvesting is not just an end-of-year activity. Smart investors and their advisors look for opportunities throughout the year. Even during bull markets, there are often underperforming positions that can be harvested strategically.
Here are some smart tax loss harvesting strategies:
- Monitor regularly: Don’t wait for December. Look throughout the year for underperformers that could offer tax benefits.
- Replace thoughtfully: Use similar but not identical investments to maintain your market exposure without violating the wash sale rule.
- Think about the big picture: Coordinate your tax loss harvesting moves with your overall financial and tax planning strategy, including future gains like selling a business or exercising stock options.
- Remember recovery math: If a stock declines 20%, it must rise 25% to breakeven. If it declines 50%, it needs to rise 100% to recover. In cases of large declines, harvesting the loss may be the smarter move.
- Use only in taxable accounts: Tax loss harvesting is only available in taxable accounts like brokerage accounts, joint accounts, or trusts. It doesn’t apply to IRAs, 401(k)s, or other tax-deferred accounts.
Final Thoughts on Tax Loss Harvesting
Tax loss harvesting is about much more than just realizing losses. It’s a sophisticated tool that supports risk management, portfolio rebalancing, and tax optimization, all working together to strengthen your after-tax returns.
Because there are many moving parts: like wash sale rules, future gain planning, and account types, it’s important to coordinate your strategy carefully with a qualified CPA or financial advisor. When used thoughtfully, tax loss harvesting can be a powerful tool to build long-term wealth while minimizing your tax burden.
If you’d like help determining whether tax loss harvesting makes sense for your situation, contact ACap Advisors & Accountants today. Our team is here to provide personalized guidance every step of the way.
