Harvesting Tax Losses In This Season

As we are quickly approaching the end of the year, I find myself reflecting on the many things I am thankful for. Family, friends, health, and the ability to do meaningful work for wonderful clients to help them create peace around the issue of money are top of mind. One would assume that the abrupt market correction earlier this year would not fall into my “thankful” category, but it actually does! Volatility can be our friend, too. Market declines and bear markets have always been temporary and our long-term expectation is that our investments will increase in value over time.  Temporary volatility allows us to take advantage of strategies that opportunistically build wealth over time.  Two strategies that we implement during these times are rebalancing and tax loss harvesting.

Rebalancing during a market correction gives us the opportunity to buy things that are on sale (stocks) while selling things that have gone up in price (bonds).  Think of it as a version of “Black Friday” or “Cyber Monday” shopping. We want to buy the stock of really wonderful companies at discounted prices! It seems counterintuitive, but our disciplined approach makes it a very natural process that we have implemented for many years.

Tax loss harvesting is a strategy that will save you money on taxes this year and potentially in future years. This will help you keep more money in your pocket which is always a good thing. The process involves selling an asset, buying a replacement, and capturing a tax benefit.  This strategy is only beneficial in taxable accounts like trusts, joint and/or individual accounts.  Here is how it works:

1. We analyze portfolios on a regular basis to look for funds in the portfolio that have gone down in value.  If Position A’s price has dropped significantly, we may sell Position A to lock in a loss.  This will lower your cost basis on Position A and help you from a tax perspective. 
2. Because markets are resilient and often recover quickly, we need to make sure you are a participant in the recovery, so we purchase a different but similar type of investment vehicle, Position B. This keeps your asset allocation in alignment with your financial plan.
3. While keeping the integrity of the asset allocation (which is the foundation of your investment strategy), we replace the investment that has a loss (Position A) with a different investment that has the same characteristics (Position B).  This strategy will keep you fully invested and your long-term investment strategy and goals aligned.  By purchasing a different Position B and not re-purchasing Position A immediately, you participate in the market’s inevitable recovery while avoiding the IRS’ Wash Sale Rules.  The best part is that we can use the harvested losses from Position A to offset gains from other investments throughout the year or as a partial offset to ordinary income on federal income taxes.
4. In most cases, losses can be carried forward from year to year until they are used up.  You can have a choice to offset future gains or you can use some of the loss to offset income each year.  In 2020, if you are married and filing jointly, you can use up to $3,000 in losses to offset your ordinary income.  If you are single, you can use $1,500 to offset your ordinary income.   Always consult your tax advisor for information on your specific situation.

When the next market correction appears (and it most certainly will at some point!) we will be waiting to take advantage of these strategies all over again. If you have questions about rebalancing or tax reduction strategies, or financial planning in general, we would be happy to meet with you.  Until then, stay well.