What is Tax Loss Harvesting?

By Steve Billimack on December 20, 2022

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What is Tax Loss Harvesting?

In volatile years like 2022, tax loss harvesting can be applied to taxable accounts. This doesn’t apply to tax-deferred accounts like IRAs but to taxable accounts that have positions trading on a loss on the original purchase price.

This year with both bonds and stocks showing volatility there’s some potential opportunities in both bond and stock positions. Tax Loss Harvesting refers to the process of selling that position for a loss and that loss would be used in future years or the same calendar year to offset capital gains from your portfolio.

Knowing the Terminology

Your CPA or tax advisor can give you the best advice on how this impacts your return. This is a general overview. Typically when talking about tax loss harvesting there are some terms that tend to come up.

One you’ll hear about is the wash-sale rule, an IRS rule that says if you want to count those losses on your taxes you cannot own a substantially similar identical within 30 days of selling the position.

What some people do is they’ll sell the position and have the proceeds sit in cash and then after 31 days buy back the original position. The disadvantage of that is that you’re in cash so if the market has a dramatic move upside, you’re not really matching your asset allocation or your investment theme.  

At Hightower Great Lakes, if we sell a position, we like to replace it with a similar position rather than a substantially identical position. An example of a substantially identical position is if we owned the S&P 500 mutual fund or an ETF, we sold it and we bought the S&P 500 futures in that 30-day window, that would be substantially identical position.

Basically you’re replacing one with the other and they’re the same. From a similar perspective we could replace the S&P 500 with the Russell 1000 Value mutual fund or ETF.

In that case it’s technically a similar position – both are U.S. focused, both have a large cap bias to them because they’re market cap weighted so the top holdings are similar in order and slightly different in percentages because one has 500 extra stocks but they’re not a big weight of the portfolio.

So that would allow us to, in this example, hold that Russell 1000 going forward or after 31 days we could replace it and go back to the original investment and that would still qualify that loss for tax purposes.

Short Term vs. Long Term

Another consideration that comes up is short term versus long term. Short term is any gain or loss that you’ve realized in a position that you’ve held for less than a year and long term is longer than a year.

The most typical tend to be long term gains or long-term losses. So let’s we have a bank of long-term losses we’ve built up – again we can use those to offset long-term gains from the same year. If we have excess losses you can deduct up to $3,000 of that from your federal tax return.

If you have excess losses beyond that it’s important to note that those losses carry forward to future years. We think it’s a good opportunity if it’s available to build a loss bank to help offset future gains. It’s important to note that we’re not basing this decision solely off of taxes. We’re doing it in conjunction with your asset allocation and your other investment themes.

Talk to the Professionals

We’ve been long-term investors so we tend to pre-balance portfolios gradually so the one thing you may see in a tax loss harvesting world is more trades than usual. But the whole idea is to optimize after-tax returns for your portfolio.

If you or your CPA have questions, we would be more than happy to go over the concepts or see if this applies to your personal portfolio. You can contact us at greatlakes@hightoweradvisors.com

Hightower Advisors, LLC is an SEC registered investment adviser. Securities are offered through Hightower Securities, LLC, Member FINRA/SIPC