Tax Strategy

Demystifying Tax-Loss Harvesting

Demystifying Tax-Loss Harvesting
January 10, 2024

In the world of financial planning, every dollar saved counts. That's why savvy advisors turn to tax-loss harvesting as a powerful strategy to optimize client portfolio outcomes. In this comprehensive guide, we'll demystify tax-loss harvesting, empowering you with the knowledge to navigate the complexities of tax management and potentially boost your investment performance. We also cover the benefits of working with a Savvy advisor and how we implement Savvy Direct Indexing to help with tax-loss harvesting but first, let's learn a bit more about how to get started. 

Understanding Tax-Loss Harvesting

Tax-loss harvesting is a technique investors use to strategically sell investments that have experienced a loss to offset taxable gains. The purpose is to potentially reduce your tax liability and enhance your overall investment returns. By harnessing the power of tax-loss harvesting, you can make your losses work for you.

It's important to note that capital losses will only lower your current taxable income if you have a corresponding realized gain. If there are no gains in the same taxable year, capital losses can be used to offset up to a maximum of $3,000 of ordinary income per year. Any excess losses can carry over and be deducted from future years' income tax returns.

Benefits of Tax-Loss Harvesting

Let's explore the advantages that tax-loss harvesting can offer:

1. Minimizing Capital Gains Taxes: By offsetting capital gains with capital losses, you can potentially reduce the amount of taxes owed on your investment gains.

2. Maximizing Investment Returns: Tax-loss harvesting allows you to reinvest the proceeds from sold investments into potentially more promising opportunities, potentially enhancing your long-term investment returns.*

Direct Indexing

3. Maintaining Portfolio Diversification: As you strategically sell underperforming investments, you can rebalance your portfolio and reallocate funds to assets that better align with your investment objectives.

How to Implement Tax-Loss Harvesting

Implementing tax-loss harvesting requires careful planning and execution. Consider the following steps:  

1. Monitor Your Portfolio: Monitor your portfolio periodically to identify investments that have declined in value and are no longer meeting your goals.

2. Calculate Losses: Once you’ve identified an investment with a loss, calculate your total losses for the year by subtracting the current market value from the purchase price of the security.

3. Selling and Reinvesting Strategies: Sell the underperforming securities to realize the losses and reinvest the proceeds in similar, but not identical, securities to maintain market exposure and avoid violating the IRS's wash sale rule. When identifying suitable replacements for sold securities, remember the restrictions outlined by your tax advisor. 

4. Execute Trade: Make sure that all transactions take place within a designated time period to ensure you comply with IRS regulations and maximize potential savings on your taxes.

5. Compliance with IRS Regulations: Ensure you comply with IRS regulations regarding tax-loss harvesting, including the wash sale rule, which prohibits buying substantially identical securities within 30 days of selling for a loss. This can be avoided if you work with a financial advisor who can help you choose the appropriate stocks. 

Risks and Considerations

While tax-loss harvesting offers benefits, it's essential to be aware of the risks and considerations involved:

1. Wash Sale Rule Violations: As previously mentioned, failing to comply with the wash sale rule can result in the disqualification of deductions, causing you to miss out on potential tax benefits.

2. Short-Term vs Long-Term Gains: Tax-loss harvesting should not replace long-term investment goals; investors must consider both short-term and long-term financial objectives when deciding whether or not to implement this strategy.

3. Tax Code Changes: It's crucial to stay informed about any changes in tax laws that could impact the effectiveness of your tax-loss harvesting strategy.

The Importance of Working with a Financial Advisor

Navigating the intricacies of tax-loss harvesting can be challenging along with the time you must invest to get the most out of this strategy. That's why it's important to work with a financial advisor who specializes in tax-efficient investing strategies. One of the benefits of working with a financial advisor is that they are well-versed in the wash rule and can help to optimize your portfolio with an individual stock implementation.

How Savvy’s Direct Indexing Works

Savvy Direct Indexing combines advanced technology with real-world financial expertise. Our team is dedicated to helping clients create a personalized portfolio with the potential for higher returns while cutting down on taxes and fees. Here’s how Savvy Direct Indexing is works:

  1. Customization: Savvy works with clients to implement truly bespoke Direct Indexing portfolios. Our offering allows clients to have full control over the specific stocks included or excluded from their portfolios as well as being able to track a unique basket of stocks or build portfolios that align with religious, environmental, or other values. This flexibility enables the design of investment strategies that are fully compatible and cohesive with a client’s broader portfolio.

  2. Happens in-house at Savvy: We have the expertise in-house to develop a tailored strategy specifically to a client's needs and their broader portfolio. By keeping everything in-house, we have complete control over the process and can create consistency. Additionally, we are equipped to handle complex situations and positions and can provide customized solutions to help meet your specific needs and goals.

  3. One Strategy Across Your Portfolio: Savvy Direct Indexing allows a uniform strategy across your entire portfolio, eliminating the risk of deviation due to external constraints. Furthermore, if there are existing positions that a client wishes to retain, they can be seamlessly integrated into the portfolio. 

Our goal is that working with a financial advisor at Savvy should allow you to enjoy greater peace of mind and confidence when it comes to executing tax-efficient investments. With personalized advice, access to specialized tools and analysis, and an opportunity to maximize tax savings, we can help you to be confident that you are taking the right steps toward achieving your long-term financial goals. Plus, working with a Savvy advisor can help keep your portfolio balanced so you keep an eye out for potential gains or losses due to market changes. 

To learn more about tax-loss harvesting and how it can benefit you, visit Savvy Wealth's Direct Indexing page. Start maximizing your tax-saving potential today!

There are no guarantees that any strategies implemented will be successful notwithstanding such efforts to mitigate tax liabilities.