Tax-loss harvesting is a strategy used to lower capital gains taxes when investing. Good-enough investors know how to minimize capital gains tax to maximize returns.
I've been investing in stocks since 1995. Since then, I have also regularly sold stocks to raise liquidity or buy things that I want. Every time I sell stocks, I try to conduct some tax-loss harvesting before the end of the year to minimize my tax bill.
Let me explain how tax-loss harvesting works. If you invest your money with a digital wealth advisor, they should be able to conduct tax-loss harvesting for you as well.
How Does Tax-Loss Harvesting Work?
It involves selling investments at a loss to offset capital gains. For example, if you realized $5,000 in capital gains this year, you could sell investments at a $5,000 loss to offset the gains and owe no tax.
Be Careful Of The Wash Sale Rule
The “wash sale” rule prevents you from selling at a loss and immediately buying back the same security. You must wait at least 30 days before repurchasing to avoid the wash sale rule. The wash sale rule nullifies your ability to tax-loss harvest, so be careful.
Tax-Loss Harvesting By Short-Term And Long-Term Capital Gains
Tax-loss harvesting can be used to offset both short-term and long-term capital gains. Short-term losses offset short-term gains, and long-term losses offset long-term gains.
Short-term capital gains tax rates are your ordinary income tax rates. Long-term capital gains tax rates are much lower, which encourages stock investors to hold onto their stocks for longer than one year.
Tax-Loss Harvesting Carryover
Losses can offset gains plus up to $3,000 of ordinary income. Any remaining losses carry forward to future tax years. As of now, there is no limit for how long the $3,000 of carry forward losses can be used.
For example, if you have $30,000 worth of carry forward losses, you could use them to deduct $3,000 off your ordinary income for the next 10 years.
How To Maximize Tax-Loss Harvesting Benefits
As a DIY investor, tax-loss harvesting is an important activitiy when you want to sell stocks and save money. The more you can minimize your capital gains tax, the more you will boost your returns or minimize your losses.
In summary, here is how to maximize your tax-loss harvesting benefits to minimize your capital gains tax.
- Review your portfolio regularly for decliners to harvest losses.
- Avoid wash sales by waiting at least 31 days before buying back.
- Offset short-term gains first, as they are taxed at higher rates.
- Harvest losses at year-end to offset gains already realized.
- Use losses to offset up to $3,000 of additional income.
- Carry forward any excess losses to future tax years.
Tax-loss harvesting involves strategic selling of declining investments to realize losses that can minimize capital gains taxes owed. It requires monitoring your holdings, avoiding wash sales, and properly matching gains and losses.
Invest In Private Growth Companies
In addition to investing in public stocks, consider also diversifying into private growth stocks for potentially greater returns. By investing in private growth stocks, there is less of a need to tax-loss harvest because you're holding them for years.
The easieste way to invest in private stocks is through a fund. Check out the Innovation Fund, which invests in the following five sectors:
- Artificial Intelligence & Machine Learning
- Modern Data Infrastructure
- Development Operations (DevOps)
- Financial Technology (FinTech)
- Real Estate & Property Technology (PropTech)
Roughly 35% of the Innovation Fund is invested in artificial intelligence, which I'm extremely bullish about. In 20 years, I don't want my kids wondering why I didn't invest in AI or work in AI!
The investment minimum is also only $10. Most venture capital funds have a $250,000+ minimum. You can see what the Innovation Fund is holding before deciding to invest and how much.