Tax-loss harvesting can lessen the pain of losses in taxable accounts. But you have to be careful. Here are 3 things to consider for tax-loss harvesting.
What is Tax Loss Harvesting?
According to our awesome friends at Investopedia, tax-loss harvesting is…
Tax-loss harvesting is a strategy that can help investors minimize any taxes they may owe on capital gains or their regular income. (It) involves selling an investment that has lost value, replacing it with a reasonably similar investment, and then using the investment sold at a loss to offset any realized gains.
Tax-loss harvesting only works on taxable accounts like joint accounts, TODs, and Trusts. That means it doesn’t work in IRAs, 401ks, 403bs, etc.
Tax-loss harvesting also only works if you don’t buy the same investment. It has to be similar, or completely different or you’ll get a wash-sale.
What is a Wash Sale?
According to those stellar guys at Investopedia, wash sales are…
sales that occur when an individual sells or trades a security at a loss and, within 30 days before or after this sale, buys a â€œsubstantially identicalâ€ stock or security, or acquires a contract or option to do so.Â
How do you stay invested in the market, capture a loss, and void the wash sale rule? Here are 3 things to consider:
1. Similar Investments
When you sell an investment for a loss, you cannot buy the same investment for 30 days. You can, however, buy a similar investment. This works well if your investment plan uses asset allocation and buys different asset classes. And by asset classes I mean, large-cap, small-cap, international, etc.
For example, if you sell your large-cap S&P 500 index fund position and capture a loss, you can buy a different large-cap fund like a Dow Jones index.
2. 30 Days
You must wait 31 days to buy the same investment. If you like the investment you had, you may want to buy it back. But you need to wait 31 days to do so. You should also check to make sure you didn’t buy it within the previous 30 days from the sale.
3. Other Account Buys
Lastly, be careful about trades in other accounts. If you sell your favorite S&P 500 fund in your joint account for the loss, you cannot buy it in your IRA for 31 days either. you also need to make sure you didn’t buy it in the previous 30 days in your other accounts as well.
Tax-loss harvesting can be an excellent way to take advantage of losses in your taxable accounts. But you have to be careful. Invest in similar or different funds or wait 31 days to buy that same investment you sold. And be careful not to buy it in your other accounts. If you consider these three things, you’ll get something out of losses besides a headache.
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