Tax-loss harvesting is on investors’ minds right now, and it’s clear why. The end of the tax year is looming, prompting investors to consider their options. Tax-loss harvesting, while relatively simple overall, has important depth that investors should note. Its wrinkles and twists deserve a closer look to avoid potential issues and get more out of investor portfolios.
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For those getting started with tax-loss harvesting for the first time, it’s worth revisiting the basics. No one’s portfolio is perfect, and almost every investor has at least some assets posting an end-of-year loss. When the year ends and the cap gains picture is complete, however, those losses don’t help automatically; investors face cap gains taxes all the same.
Instead, investors can sell those downward-trending assets at a loss to reduce their net capital gains. Each investor will take tax-loss harvest in a way that’s appropriate for their own portfolio and own goals. But there are some general do’s and don’ts that can elevate the process for almost any investor or advisor.
Tax-loss harvesting isn’t just a way to reduce the next year’s tax bill. It also presents an opportunity to reinvest assets and, broadly, retool a portfolio overall. Investors can reinvest proceeds from those sales into different strategies, and, perhaps most importantly, different wrappers. For investors curious about ETFs, for example, but who are still largely in mutual funds, tax-loss harvesting mutual funds offers an opportunity to swap into a different wrapper.
The Wash Sale rule is something most tax-loss harvesting practitioners are aware of. But, to reiterate, when investors and advisors sell their assets at a loss for tax purposes, they must avoid reinvesting those assets into substantially similar strategies. One must avoid tax-loss harvesting a small-cap value fund for a small-cap value fund without some notable differences.
Understanding the wrinkles in the Wash Sale rule, however, can really help investors make portfolio changes. One may sell a broad market fund and reinvest into a sector ETF with overlap, but not total overlap, and follow the rule. The IRS retains final say as to whether certain moves violate the Wash Sale rule.
Tax-loss harvesting can help investors avoid steep tax bills, but it shouldn’t come at the expense of overall portfolio planning. American Century Investments’ “Do’s and Don’ts’” on tax-loss harvesting remind investors not to let taxes drive overall portfolio decisions. Investors should retain some stomach for bumps in the road. especially for strategies that note expected volatility.
2025 has held plenty of reward for investors, but plenty of punishment, too. Like a muscle, good tax-loss harvesting practice can help investors get better each year.
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