As 2020 has become one of the most memorable and life-changing years many of us have ever experienced, I want to take this opportunity to share that I am thankful for what I have. I am grateful for my family’s health, our opportunities for laughter, fun, and the ability to enjoy and thrive in what challenges are presented. I’m also thankful that I have the ability to assist family, friends, and clients through both personal interaction and financially related challenges they may be experiencing as a client.

What this year has taught me most, is to not take our personal freedoms and liberties for granted. Lock-downs suck! Social media is draining! And when you cannot do what you want to do, you begin to feel like you and everyone around you has been served an unjust prison sentence. But all is not doom and gloom; there is hope. And there is a future. 2021 is around the corner and the years after that will continue to come and go. Life goes on, and we must continue to plan out what, where, and how we will emerge after this pandemic and political upheaval passes.

I look forward to the many conversations, restaurant dinners, meetings, parties, vacations, and outings we will enjoy over the next several decades. Keeping the ‘long-view’ helps to keep my sanity and focus. Hopefully, we can all move on soon and return to the definition of what ‘normal’ used to be.

On that note, I’ve included an article below that describes a year-end tax-saving strategy that can be used by investors who have realized a loss in/on their investments. Read on, and let me know if you have questions or need additional information….

When a loss becomes a positive

In a non-retirement account, tax-loss harvesting is the process of intentionally selling investments that have lost value. There are a variety of reasons it may be a strategy worth considering. For example, it could help you:

  • Pay less in taxes by reducing your overall income by up to $3,000 per year
  • Offset the taxes owed from selling other investments at a profit
  • Reduce your income and/or tax liabilities in future years (losses greater than $3,000 per year carry forward)
  • Rebalance your portfolio and/or adjust your asset allocation

By paying less to Uncle Sam today, you can keep more of your hard-earned money working for you in the market rather than putting it toward taxes. And by selling weaker-performing investments, you may be able to improve your portfolio’s overall returns in the long term.

Tax-loss harvesting is a strategy you can use whether the market is up or down. However, it’s especially beneficial following a market correction (a decline of 10% or more from a peak high) or a sharp decline in a particular holding.

What You Need to Know

Your portfolio’s value fluctuates often, both up and down. But those changes aren’t locked in until you sell an asset, or “realize” the difference. Selling an investment at a profit is considered a realized capital gain; selling it for less than the purchase price is considered a realized capital loss.

Each year, the IRS allows you to weigh out capital gains and losses and deduct up to $3,000 in net capital losses to reduce your income or offset realized gains on your tax return. If your losses exceed $3,000, you can carry the additional amount forward indefinitely.

If you’re selling a holding but want to replace it with another that serves a similar purpose, be careful to avoid a wash sale (replacing what you sell with another holding that’s too similar within 30 days). If you violate the wash-sale rule, the capital loss is no longer considered tax deductible (see “Wash Sale Dos and Don’ts).

Wash Sale Dos and Don’ts

The wash-sale rule is designed to prevent abuse of tax deductions. Here are some examples of what would and wouldn’t violate the rule.

Example: You bought 100 shares of XYZ Technology at $30, a software design company. But after bungling their latest product release, shares are selling for $20. You sell all your shares and realize the loss. A week after you sell, the company replaces the CEO responsible for overseeing the flop and shares begin to recover. You could:

Repurchase shares immediately because you believe in the company’s long-term prospects and now think it’s priced at a bargain. Because you’re repurchasing the same company in less than 30 days, you’d violate the wash-sale rule and negate your tax deduction from selling at a loss.

Explore other options in the technology space to maintain your allocation. Perhaps some competitors design software but also offer cloud-computing services. As long as the new company is not “substantially identical” to the original one, you would not violate the wash-sale rule and would maintain your tax advantages.

Wait a few more weeks to see if the rally has legs. If the company seems to have recovered from its missteps after 31 days, you could repurchase the shares. This would not violate the wash-sale rule and you could maintain your tax deduction.

Things to Keep in Mind

To successfully harvest losses for tax purposes, you’ll need to know how long you’ve held an asset and the price at which you originally purchased it (its cost basis).

If you’ve held an asset for more than a year, it’s considered a long-term holding; less than a year is considered a short-term holding.

The IRS treats long-term investing more favorably: Long-term capital gains are taxed at 0%, 15%, or 20% depending on your income level. A short-term capital gain is taxed at the same rate as your regular income, from 10%-37% using 2020 tax brackets.

There are many ways to determine cost basis, from “first in, first out” to average cost. Frankly, it can get a little tricky. It’s best to work with your financial advisor or tax professional to review records and make sure you know where things stand before selling investments for tax-loss harvesting purposes.

Tax-Loss Harvesting: A Benefit for Both Boom and Bust Years

Remember, tax-loss harvesting can help whether your portfolio is in a boom or bust year. Even in a down year without many gains to offset, it could still make sense to harvest your losses to reduce your overall income this year. Any additional losses can be used in future years, too. Think of it as a tax-deduction piggy bank: You can store this year’s losses to offset another year’s gains down the road.

A final word: Tax savings are certainly a benefit, but one that comes second to staying on course toward your ultimate financial goals. Tax-loss harvesting can be a powerful tool to tune up your portfolio, but ultimately, a well-designed portfolio is even more powerful. It can also be complicated, so it’s best to enlist the help of a professional to maximize the strategy and keep your portfolio on track.

If you believe you may be in a situation to take advantage of some tax-harvesting, you’ll want to connect with your tax professional in the next week or so to make some calculations. If you have some general questions about it or just want to learn more, feel free to give our office a call at (818) 249-4984. We are here as a resource to our clients and our community.

Important Risks: Investing involves risk, including the possible loss of principal. Diversification does not ensure a profit or protect against a loss.

All information provided is for informational and educational purposes only and is not intended to provide investment, tax, accounting, or legal advice. As with all matters of an investment, tax, or legal nature, you and your clients should consult with a qualified tax or legal professional regarding your or your client’s specific legal or tax situation, as applicable. The preceding is not intended to be a recommendation or advice.