In the complex world of elite wealth management, financial strategies are tailored to preserve and grow assets optimally. Tax-loss harvesting is a strategy that has garnered considerable attention over the years. This blog post discusses the pros and cons of tax-loss harvesting. Though potentially hidden, the largest fee in your portfolio may very well be the taxes paid to the federal and/or state government.    

A typical portfolio of securities will have winners and losers. Many investors are inclined to sell winners to capture the gains, hang onto the losers, and wait for them to recover.  But is this the most prudent investment strategy?

Let’s make another bold assumption. The losers have no value. Their current prices are less than what you paid for them. Lastly, these investments are held in taxable accounts, so selling winners will trigger taxable events.

If this describes your current situation, you should know more about tax-loss harvesting. That is the selling of losers and using their capital losses to offset the capital gains of winners. It is a relatively simple concept, but it takes some discipline and expertise to make it happen. There are also some pros and cons you should be aware of.

Are you looking for elite wealth management services in Nashville, TN?  Be sure to read our latest Quick Guide. 

Introduction to tax-loss harvesting

Capital gains on the sale of investments in personal and joint accounts trigger taxable events. When high-income earners sell investments, they may want to maximize their profits and minimize their tax liabilities. Therefore, an important strategy for making both happen is tax-loss harvesting. This financial planning strategy could improve your net returns (gross return minus cost basis minus tax liability). 

How valuable is tax-loss harvesting?

Tax-loss harvesting is an investment strategy that transforms investment losses into tax savings. Simply put, when an investment is worth less than what you paid, there is still value when its sale is used to offset taxes on the sale of appreciated property.

But like other financial strategies, tax-loss harvesting has its advantages and disadvantages. As a personal CFO working in Brentwood, Tennessee, I recommend understanding these pros and cons before making tax-loss harvesting part of your investment strategy.

What are the financial positives for tax loss harvesting?

Reduced Taxable Gains: The primary benefit of tax-loss harvesting is reducing your taxable gains. It could offset capital gains and a certain amount of ordinary income. Check with your tax professional or financial advisor for more information. 

Deferral of Capital Gains Tax: Tax-loss harvesting allows you to defer paying taxes on capital gains. When you sell a high-performing investment, you could use harvested losses to offset the capital gains taxes due.

Portfolio Rebalancing: Tax-loss harvesting could also be a method to rebalance your portfolio. Selling off underperforming assets creates an opportunity to reinvest in different assets that better align with your long-term investment goals.

What are the cons of tax loss harvesting?

The IRS has implemented the wash-sale rule to prevent investors from using the system. This rule disallows the claim of a tax loss if you buy a substantially identical stock within 30 days before or after selling your losing investment. This could limit your investment options.

If you repurchase the same or similar assets within 30 days, the cost basis of the new investment is lower, meaning potentially higher capital gains tax when you sell that asset in the future.

Tax-loss harvesting requires a keen eye for detail and meticulous record-keeping. For those managing their investments, this can be a time-consuming and daunting task.

The importance of net returns: 

From an investment standpoint, net returns refer to the total gain or loss experienced on an investment after all costs, taxes, and fees have been deducted. This is a more realistic measurement of an investment’s profitability because it considers all associated expenses you must bear.

For instance, if you purchase a stock for $100 and sell it for $150 but pay $10 in transaction fees and $20 in taxes, your net return would be $20 ($150 – $100 – $10 – $20).

Net returns are often expressed as a percentage of the initial investment. In the above example, the net return would be 20% ($20 net gain / $100 initial investment).

This concept is extremely important for you to understand, as it gives a clearer picture of the true profitability of an investment, as opposed to gross returns, which only consider the price appreciation without taking expenses into account.

Why consider tax loss harvesting to enhance your net returns?

Here are a few reasons why tax-loss harvesting could help to improve your net returns:

 

    1. Lower Tax Liability: The most straightforward reason to consider tax-loss harvesting is that it could help to reduce your tax liability. When you sell investments that have lost value, you could use these losses to offset capital gains from other investments, which can help to lower your total taxable income.

 

    1. Rebalance Portfolio: Tax-loss harvesting could also be a good opportunity to rebalance your portfolio. If you’ve sold off underperforming investments, you could reinvest in different assets that may be better aligned with your investment goals.

 

    1. Improved Net Returns: You may improve your net returns by reducing your tax liability. In other words, after taxes, your overall returns could be higher with tax-loss harvesting than without it.

 

    1. Risk Management: Tax-loss harvesting could also be part of a broader risk management strategy. By selling off losing investments, you could reduce your exposure to certain types of risk.

 

    1. Roth Conversion: A lower taxable income can be beneficial if you have a traditional IRA and are considering a Roth conversion. With tax-loss harvesting, you can offset the taxes owed on the conversion.

 

    1. Strategic Tax Planning: Tax-loss harvesting can be used strategically to control your taxable income in certain years. This can be useful in various scenarios, such as trying to avoid hitting the Net Investment Income Tax threshold or remaining eligible for certain tax credits or deductions.

Remember, tax strategies are complex and depend on your circumstances, so it’s important to consult with a tax professional or financial advisor before implementing them.

 

Why Work with Silberman Wealth Strategies: 

The current administration wants to increase investment taxes, and a vigilant IRS is keen on auditing the millionaire next door. Tax-loss harvesting could be valuable for minimizing overall tax liability while enhancing net returns.  However, tax-loss harvesting requires careful thought and strategic planning to ensure the benefits outweigh the costs. 

This is where our personal CFO services in Brentwood, which provides elite wealth management services, come into play.

Our team specializes in helping successful high-income earners navigate the complexities of tax-loss harvesting regularly.  We provide the experience, knowledge, and tools necessary to manage your financial affairs cost-effectively.

Engaging with our elite wealth management service can help you live an amazing life of significance. Not only can our team of professionals assist in financial planning and tax strategies, but we can also provide insights and advice on estate planning, philanthropy, and other aspects of your financial life and legacy.   Connect with our team today.

 

Mitch Silberman

More about the author: Mitch Silberman

With over 30 years of experience, using his investment expertise and analytic skills, Mitch has helped his clients pursue their dreams with confidence and financial security. He is the President and Founder of Silberman Wealth Strategies, Inc., which is a fee-based Registered Investment Advisor.