Tax-Loss Harvesting: From a Financial Advisor
May 16, 2025
Investments that have declined in value may still offer financial advantages. Tax-loss harvesting is a strategy that helps investors turn losses into tax benefits. This can potentially lower their tax burden now and in the future.
How Tax-Loss Harvesting Works
Tax-loss harvesting involves selling investments that have decreased in value and replacing them with similar alternatives. The losses realized from these sales can then be used to offset capital gains, ultimately reducing taxable income and potentially keeping more money invested and working for you.
Christopher Fuse, an asset allocation portfolio manager at Fidelity, emphasizes the benefits of this strategy: "It helps clients reach their goals more efficiently."
For those working with a financial advisor, tax-loss harvesting may already be incorporated into their portfolio management. Investors handling their own finances should consult a tax professional before implementing this strategy.
The Tax Benefits of Investment Losses
Investment losses can be applied in multiple ways:
● Offsetting capital gains to reduce overall taxable income.
● Deducting up to $3,000 in net capital losses from ordinary income annually ($1,500 for married individuals filing separately).
● Carrying forward unused losses indefinitely for future tax benefits.
Fuse highlights how volatile markets—such as those seen in 2020, 2022, and 2023—can create opportunities for tax-loss harvesting. "Tax-loss harvesting is episodic; when the opportunity arises, we leverage it. These losses act as a 'tax savings account,' insulating taxable gains for years."
Understanding Short-Term vs. Long-Term Capital Gains
Capital gains and losses fall into two categories:
● Short-term: Result from investments held for one year or less and are taxed as ordinary income, with a top federal rate of 37%. For high earners, the net investment income tax (NIIT) may increase this rate to 40.8%.
● Long-term: Apply to investments held for more than a year and are taxed at a lower capital gains rate, which can reach 23.8% with NIIT for high earners.
Tax Considerations for Mutual Funds
Mutual fund investors may receive capital gains distributions, which could be offset by harvested losses. Mutual funds can also give out short-term gains. These gains are taxed as ordinary income. You cannot offset them with capital losses.
Identifying Tax-Loss Harvesting Opportunities
Ideal candidates for tax-loss harvesting include investments that:
● No longer align with your portfolio strategy.
● Have weak growth prospects.
● Can be replaced with similar assets.
Focusing on short-term losses provides the greatest tax advantage, as they offset short-term gains first—typically taxed at higher rates. The IRS says that losses must first reduce gains of the same type. After that, any extra losses can offset gains in the other category.
For example, if an investor realizes a $15,000 long-term loss but has only $5,000 in long-term gains, the remaining $10,000 can be used to offset short-term gains. If no gains exist in the current year, losses can offset up to $3,000 in ordinary income, with any remainder carried forward.
The Wash-Sale Rule and Maintaining Diversification
When replacing investments, investors must be mindful of the wash-sale rule. This rule disallows tax deductions if the same or a "substantially identical" security is repurchased within 30 days before or after the sale.
To avoid a wash sale while staying invested in a sector, consider substituting a mutual fund or exchange-traded fund (ETF) targeting the same industry. If unsure, consult a tax professional or a financial advisor.
Notably, the wash-sale rule currently does not apply to cryptocurrencies, allowing immediate repurchases after selling at a loss. However, pending legislation may close this loophole, making it essential to stay informed.
Integrating Tax-Loss Harvesting into Year-Round Strategy
To potentially maximize benefits, tax-loss harvesting should be part of an ongoing tax and investment strategy. Professional portfolio managers design tax-efficient portfolios by selecting individual investment components that allow for greater harvesting flexibility.
Portfolio rebalancing also presents an opportunity for tax-loss harvesting, ensuring alignment with financial goals while identifying underperforming assets for strategic sales. For employees receiving stock-based compensation, selling shares at a loss ahead of new stock grants can help maintain balanced exposure.
Selecting the Right Cost Basis Method
Cost basis—the original purchase price of an investment—affects how gains and losses are calculated. Investors who acquire multiple lots of the same security can choose between:
● Average-cost method: Uses the average purchase price per share.
● Actual-cost method: Tracks each lot separately, allowing investors to sell high-cost shares first to maximize realized losses.
Balancing Tax Strategy with Investment Goals
While tax-loss harvesting offers valuable tax savings, investment decisions should always align with long-term financial objectives. As the saying goes, "Don’t let the tax tail wag the investment dog."
For investors who lack the expertise or time to implement this strategy, professional financial advisors can help develop a tax-efficient investment approach that supports overall financial goals.
Sources:
https://www.fidelity.com/viewpoints/personal-finance/tax-loss-harvesting
Disclosures:
This information is an overview and should not be considered as specific guidance or recommendations for any individual or business.
This material is provided as a courtesy and for educational purposes only.
These are the views of the author, not the named Representative or Advisory Services Network, LLC, and should not be construed as investment advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. Please consult your Financial Advisor for further information
Our firm does not offer tax or legal advice. Consult your tax or legal advisor regarding your situation.
