To Inform:

Years like 2022 when both stocks and bonds decline are rare. Because of the conservative assumptions built into the financial plans of the clients we have the privilege of serving we know those plans can tolerate years like this. Nonetheless, it’s sometimes hard to find silver linings in market drawdowns. One silver lining the current market decline has presented to The Joseph Group is the opportunity to realize some losses in our client portfolios. A strategy known as “Tax Loss Harvesting” is a technique we use in taxable accounts such as Brokerage or Trust accounts. We realize losses for the benefit of reducing taxes in the current or even future years.

Tax-loss harvesting allows us to sell some client investments that are at a loss in value and replace with a reasonably similar investment to remain fully invested for the eventual recovery in values. It cannot be the exact same investment that is sold and repurchased within 30 days. This would disallow the loss as it would be in violation of what is known as the Wash Sale Rule. For sales that do not violate this rule, the realized loss can be used to reduce taxes either by offsetting other capital gains already taken or by offsetting income as described further below.

It may be helpful to define the ways in which the IRS defines investment losses:

• Short Term Losses – losses on investments sold that were held 1 year or less.
• Long Term Losses – losses on investments sold that were held 1 year or longer.

When realizing losses, something to consider are restrictions on how these gains and losses may be paired. A long-term loss will first be applied to a long-term gain. A short-term loss will first be applied to a short-term gain. For example, a long-term gain of +$10,000 would be partially offset by a long-term loss of $5,000 first, even if short-term losses were greater than $5,000.

To better understand how tax loss harvesting can reduce your taxes, let’s look at the hypothetical case of an investor with a realized $10,000 long-term gain that was offset by taking $5,000 in long-term losses. Assuming they are at the 15% long-term capital gains rate their taxes are cut by 50% through implementing tax-loss harvesting.

• Without realizing the loss: $10,000 gain x 15% = $1,500 in taxes due
• With realizing the loss: ($10,000 gain – $5,000 loss) x 15% = $750 in taxes due

If Investors have no realized gains to offset losses in the same tax year they can use these losses in reducing their taxable income tax liability. They can apply up to $3,000 of any net capital loss against their ordinary income each year if their filing status is single or married filing jointly. (Up to $1,500 per year if married filing separately). Any additional losses can be carried forward for use on future tax returns. Here’s an example using mutual funds:

• Investor Smith bought mutual fund XYZ for $10,000 two years ago. It’s declined to $7,000 today. Smith fully liquidates mutual fund XYZ and purchases another mutual fund that is reasonably similar to fund XYZ, as the goal is to remain invested. Their income tax savings will be $720 if they are married filing jointly and in the marginal 24% tax bracket {$3,000 capital loss x 24% = $720 in tax savings}

As Investors we are all subject to market declines from time to time. Tax-loss harvesting is a method to convert these temporary setbacks into opportunities by potentially reducing taxes. Please reach out to your Joseph Group Advisor with any specific questions about your portfolio. We also strongly encourage you to check with your tax preparer on how implementing any tax strategy may affect your own situation.

Written by Jeff Tudor, Client Advisor & Team Leader