How To Lower Your Income Taxes With Tax-Loss Harvesting, #117
Wouldn’t it be nice if every investment was a winner? While not every investment will make you money, there are strategies to help you make the most of a loss. On this episode, I’m going to show you the dos and don’ts of tax-loss harvesting so you can lower your income taxes and soften potential losses in the market.
You will want to hear this episode if you are interested in...
What is tax-loss harvesting [1:10]
Examples of tax-loss harvesting [2:30]
Four things to be aware of when developing a tax-loss harvesting strategy [4:29]
Do your tax-loss harvesting homework [8:13]
Understanding tax-loss harvesting
Tax-loss harvesting is one of the many tax strategies you should consider as an investor. It works by selling investments that are down in value from your purchase price. You can use the loss to offset other taxable capital gains from that year or reduce your ordinary income for that year by up to $3,000. Then you have the option to reinvest that money into a similar investment or purchase the same investment after 30 days to avoid missing any recovery.
This strategy can be used for both short-term and long-term investment losses to soften the blow and stay invested in the market. Let’s say you have a long-term capital loss of $15,000 and you sell it off. If you have no other capital gains for the year, take $3,000 of that $15,000 loss as a deduction on your taxes this year against your ordinary income. The remaining $12,000 loss would carry over to use the following year off any other gains, or you could continue writing off the remaining loss up to $3,000 per year until it's used up. Long-term losses don't have limitations either, so you can keep using them over your lifetime to offset future gains or to write them off as ordinary income deductions.
The rules and limitations of tax-loss harvesting
While tax-loss harvesting in the current economic climate feels like a no-brainer, there are some things you need to be aware of when developing this strategy. The first is that tax-loss harvesting cannot be used with retirement accounts such as 401ks, IRAs, Roth IRAs, SEP IRAs, Simple IRAs, 403 B's, etc. Secondly, losses need to be first used to offset like gains. If you have long-term losses, those losses first need to be applied against any long-term gains, and vice versa for short-term gains and losses.
For instance, if you believe the soft drink industry is a solid investment despite your current losses, you could sell Coke to buy Pepsi. It’s a little more complicated with things like funds. Let’s say you’re invested in an S&P 500 index fund. You could sell that fund and buy a "different enough" index fund that tracks a different index, such as the total stock market index or the Russell 1000. You just have to ensure that you don’t buy a substantially identical investment within 30 days of the sale, or that loss is disallowed for current income tax purposes. For more on this and other tax-loss harvesting tips, listen to this episode!
Resources Mentioned
Connect With Morrissey Wealth Management
www.MorrisseyWealthManagement.com/contact