What Is Tax-Loss Harvesting?

Introduction

No one likes losing money on an investment. But losses can actually have a silver lining. Through a strategy called tax-loss harvesting, investors can use losing investments to reduce the taxes they owe.

How It Works

When you sell an investment for more than you paid, you usually owe capital gains tax. When you sell for less than you paid, you have a capital loss. Tax-loss harvesting means selling investments at a loss to offset gains from other investments, lowering your tax bill.

An Example

Imagine you made a $2,000 profit selling one stock but have another stock that is down $1,500. By selling the losing stock, you can offset $1,500 of your gain, so you only pay tax on $500. If your losses are bigger than your gains, you can use up to $3,000 of losses per year to reduce regular income, and carry extra losses into future years.

The Wash Sale Rule

There is an important rule to know. If you sell an investment at a loss and buy the same or a substantially identical investment within 30 days before or after the sale, the IRS does not allow the loss for tax purposes. This is called the wash sale rule. Tax-loss harvesting only applies to taxable accounts, not retirement accounts like IRAs.

Conclusion

Tax-loss harvesting turns investing setbacks into tax savings. It is a smart strategy that shows how understanding the rules can help you keep more of your money!