Last minute tax loss harvesting strategies
Harvesting tax losses can be an investor’s ally after a year of portfolio losses. So why aren’t more investment professionals praising the practice of taxation and investment management?
It’s a good question to ask.
Some trading professionals are whipping up the megaphone and touting the potential benefits (and risks) of harvesting year-end tax losses.
Heller 2021 Tax loss sales recovery portfolio increased by around 50% in the first nine months of 2021, demonstrating the tax-advantaged possibilities of adopting a tax harvest stance.
It seems like an opportunity to be seized. So what should investors know about tax harvest and, more importantly, how should they take full advantage of tax strategy?
Let’s take a closer look.
Harvesting tax losses can minimize losses
In its basic form, Harvesting Tax Losses helps investors who have suffered portfolio losses during the calendar year to minimize those losses, primarily through the US tax code.
By harvesting portfolio investments to sell them at a loss, an investor can take advantage of that loss to reduce or eliminate any taxes owed on capital gains incurred in the same calendar year.
In short, any taxes owed on capital gains or ordinary tax income can be reduced through harvesting tax losses, although there are asset limitations. According to Internal Revenue Service law, only taxable investment accounts are eligible for harvesting tax losses. This means that traditional retirement accounts such as 401k plans or individual retirement accounts (IRAs) are not eligible for the tax loss crop because they are not taxed for capital gains.
Stocks, bonds, mutual funds and exchange traded funds, however, are eligible for the tax loss crop. Besides, ordinary income can also be affected by the harvest. The process of harvesting tax losses allows an investment loss to offset taxes not only on capital gains made in an investment portfolio, but as ordinary income on an investor’s tax return. Married couples who file jointly are limited to compensating up to $ 3,000 per year in realized losses on their federal income tax returns.
I wish I had known then: Jeffrey Levine, Director of Planning at Buckingham Wealth Partners, what he would have liked to know about tax losses and closing a short position.
The process of harvesting tax losses
To understand the harvest of tax losses, one must understand the meaning of capital losses in investing.
Capital loss is any loss in an investor’s portfolio. Basically, a capital loss occurs anytime an investment asset loses value. This loss, however, is not considered a legitimate capital gain loss until the asset in question is sold for less than the original purchase price of the investment.
Suppose an investor invests $ 20,000 in ABC shares in January 2021. By November, ABC shares were down 10% since they were purchased by the investor. That leaves $ 18,000 still invested in the stock, with a loss of $ 2,000. That $ 2,000 is actually the “capital loss” of the investment.
Using the crop of tax losses, the investor could sell the remaining $ 18,000 in ABC shares, thereby locking in the capital loss of $ 2,000. Under the harvest rules of tax law, the $ 2,000 loss on ABC shares could result in the realized loss being used to offset capital gains or taxes earned as ordinary income, and potentially reduce the tax burden. global value of this investor.
Depending on that investor’s tax bracket, harvesting tax losses can represent a significant tax break for the 2021 tax year. In general, the higher the investor’s tax bracket, the more that investor sees his taxes reduced thanks to the harvest.
Red flags with harvest of tax losses
Not all portfolio investment losses lead to an ideal tax loss harvest opportunity.
For example, the IRS may reject a so-called “no-effect sale” where an investor deducts a capital loss on an investment asset from any capital gain realized by the same security purchased 30 days before or after the end of the transaction. ‘a transaction to harvest tax losses. .
In addition, the service fees that accompany the preparation of tax harvest tax returns can add up, especially if the taxpayer engages in many tax loss harvest market transactions. This could reduce the capital gains or ordinary income tax savings realized through harvesting tax losses.
Investors must also be effective accountants when engaging in harvesting tax losses.
For example, the IRS may want to review every transaction made during the harvest process and ensure that they were each made with the appropriate cost basis (i.e. the different prices paid or sold during The process of collecting taxes.) If these records are not accurate, it could lead to income reporting problems and higher taxes paid, according to any IRS review of the harvest process.
Good way to offset tax penalties with high capital gains
Overall, any investor looking to take advantage of the tax-loss crop should consult with a trusted tax professional or financial advisor to make sure that all of the tax-crop benefits are worth it.
That said, if you’ve made substantial capital gains in 2021, but still have investment losses, harvesting tax losses can be a good way to offset the tax penalties imposed by high capital gains.
This will keep more of your own money in your pocket – and less in Uncle Sam’s pocket.