The black hole sucking the life out of the equity markets is mind-boggling. Over the last few weeks we have seen lows that have rivaled some of the biggest declines in modern times, and some astonishing (though short-lived) highs due to Coronavirus. Times like these call for a strategy named “tax loss harvesting,” which helps you now, but also positions you for the recovery later.

The idea behind tax-loss harvesting is simple: take the losses in your taxable accounts and use them to offset gains; you may even get a modest income tax deduction along the way. Now comes the hard part: there are rules, lots of them.

Let’s start with an illustration. Say you purchased XYZ stock at $45, and it is now $25, that is a $20 loss (ouch!). Selling those shares of XYZ “realizes the loss” and allows you to offset that loss against either current or future realized gains and get a possible tax deduction on your income. The idea is to later replace the sold security with another security you can ride back up when the recovery comes. The caveat is – you have to follow the “rules.” After all this is the IRS we are talking about.

Rules:

• Tax-loss harvesting only works in taxable accounts, not IRAs, 401(k) plans, or other retirement accounts.
• Losses are offset against gains and the excess losses can be deducted against regular income at the rate of $3,000 a year.
• Harvesting a loss has a long-term benefit, since you can carry-over unused losses indefinitely.
• Wash-Sale prohibitions apply. Most folks would love to sell their stock or mutual fund at a loss, take the loss, and then immediately buy it back! Well the IRS enacted “wash-sale” rules to prevent exactly that. A wash-sale is when an individual sells or trades a security at a loss and, within 30 days before or after this sale, buys a “substantially identical” stock or security, or acquires a contract or option to do so. So, you can’t sell your XYZ stock at a loss and then turn around and buy it again immediately or immediately buy it in your spouse’s account, or sell it from a taxable account and immediately buy in your Roth IRA and deduct the loss.

You can keep it simple and watch the 30-day rule and just wait 31 days to replace the XYZ stock with something similar, but a bit different, like ABC stock. Or XYZ equity fund with ABC equity fund. Remember the term “substantially identical” is very important. Whatever your replacement is, it should be a suitable long-term replacement. Which is why you should contact a professional financial advisor at this point. The wrong move could seriously damage your allocation and risk level if you do it improperly. And you don’t want to lose your deduction in the end.

Contact Us: Tax-loss harvesting is a great opportunity to take advantage of a down market. This market may be a mess but may be able to deliver some form of tax savings. The market has endured epidemics, terrorist attacks, recessions, hurricanes, etc. A solid financial plan will weather the storm if well constructed and well diversified, as well as tax efficient. Feel free to contact me, Cory Lyon, directly at 561-209-1120, for a complimentary portfolio review and analysis. At TFG Financial, our goal is to assist you in making informed decisions. We believe in personalized asset management, and I act as a fiduciary for all my clients.

TFG Financial Advisors, LLC is a registered investment advisor. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any securities, and past performance is not indicative of future results. Investments involve risk and are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed here.