Ready for some big tax savings from tax loss harvesting?
gettyAs we approach the end of the year, now might be the time to see if tax loss harvesting could help you lower your taxes for 2023. If you’ve turned on the TV or watched the news, you’re probably aware that almost all departments of the stock market were down in 2022.
For its part, 2023 has also been quite volatile, even though many people have seen some decent returns in their investment accounts. Even if your portfolio has grown over the years, you may have some losers, or perhaps the shares of one of your big winners are currently worth less than you paid for them. Implementing a tax loss harvesting strategy can help you lower your overall tax bill or, at the very least, minimize taxes on your investment gains.
The bigger your portfolio, the more you can save with tax harvesting.
gettyThe limits of tax loss harvesting
Each year, your investment gains and losses will be offset against each other to determine your taxable earnings. Capital gains are divided into short-term gains (shares held for less than one year) and long-term gains (held for more than one year). You can deduct up to $3,000 from your regular income if you have more short-term losses than gains. Any remaining losses beyond this amount can be carried forward to subsequent years.
This only applies to your non-retirement account. Accounts such as a 401(k), traditional IRA, or Roth IRA are tax-deferred. You will only owe taxes when you start making withdrawals.
When it comes to state taxes, the rules for collecting tax losses will vary depending on where you live—for example, California taxes capital gains as regular income. So as a Los Angeles financial planner, tax loss harvesting can be extremely valuable to me California tax planning clients. California has the highest marginal tax bracket, topping out at 13.3%. If you live in a high-tax state, you want to make sure your financial advisor also provides tax planning. The tax savings are too great to ignore.
You must follow the wash sale rules when implementing your tax loss harvesting tax planning strategy.
gettyHarvest sale and tax loss washout rules
While tax collection can be a bit time-consuming, for the most part, it’s fairly easy to implement, especially if you have fiduciary financial planner to help you and/or your investment account offers free trades. In the past, transaction costs often meant that tax loss harvesting was more beneficial to wealthier investors. Without the large impact of transaction costs, even smaller investors can save a few dollars in taxes annually by tax loss harvesting.
The main way people get confused with the implementation of tax harvesting is the wash sale rule. The wash sale rule prohibits investors from selling an investment for less and then repurchasing the same or “substantially identical” investment within 30 days before or after the sale at a loss. If you don’t follow the wash sale rules, you may lose the tax benefits of the tax loss harvesting deduction.
Tax loss harvesting can be done throughout the year
Although I write about tax loss harvesting as the end of the year approaches, you can make tax loss harvesting trades at any time during the year. The tax benefits of tax loss harvesting are usually most valuable when there is a significant decline in the stock market, as we have seen in recent months. Hopefully, you’re working with a great financial advisor who offers proactive tax planning. hopefully they will take care of the tax loss harvesting for you. You’ll get the tax benefits when you file your taxes next year and you won’t have to think about it. If you’re not sure if your financial advisor is doing tax loss harvesting for you, ask.
Buy low sell high isn’t the only investment strategy when it comes to taxes.
gettyShouldn’t you buy stocks low and sell high?
If every investment only went up, stock market returns would be much lower than they have been historically. Even if you have an amazing portfolio and great timing, the value of your investments will still fluctuate. Whereas buying low and selling high is the total objective when investing, selling some stocks to achieve tax savings can make selling down investments a smart move. For example, if you owned 1,000 shares of Apple
AAPL
shares, you could sell the 100 shares that were worth less than you paid. You would keep most of your investment in Apple stock while gaining some tax savings. Also, you could buy another 100 shares in 31 days if you wanted.
Tax loss harvesting has been around and used by the super rich for quite some time. Technology and reduced transaction costs have made this tax minimization strategy easier to implement and much less time-consuming and expensive. Tax loss harvesting can help boost your net after-tax investment returns without taking on more risk. Who doesn’t love saving money on taxes?
