Surprising Assets You Can Use to Harvest Tax Loss

SmartAsset: You'll never guess what you could use your tax-loss harvest for

SmartAsset: You’ll never guess what you could use your tax-loss harvest for

Bonds have fallen in price in 2022, but the damage to your portfolio may be less than expected, as long as you handle those losses sensibly. Tax smart way. That’s because a more common stock-related technique could ease the pain of this year’s fixed-income loss. That technique is tax loss extraction, although when applied to bonds there are some key differences from how the process is used with stock losses. Here’s what you need to know. One Financial Advisor can help you adjust your financial plan to deal with investment losses in bonds and other assets.

Tax revenue loss is determined

Exploiting tax revenue loss is a way of using your investment loss to tax relief on capital gains. It basically shows the IRS that while you make money on some investments, you lose money on others. Therefore, you do not owe much in taxes. The loss-making process involves selling loss-making assets and buying similar investments. It allows you to capitalize on your losses for tax purposes and stay desirable asset allocation.

Wondering why you have to sell an investment to realize a loss? Consider what buying a new car would be like. Its value depreciates as soon as you leave the lot, but you won’t realize the loss or see it affect your wallet until you try to sell the car. Likewise, you may know that your property is underperforming, but you cannot claim your loss until you have sold your investment.

You may lose your bond for any or all of these three reasons:

  • Offset gains made elsewhere in your portfolio for this tax year

  • If you have a loss, you can reduce your taxable income by up to $3,000

  • Bring loss forward to another tax year and use it in the future

Why now might be the time to harvest bond losses

Bond losses on the scale currently experienced make it attractive to harvest tax losses on fixed-income assets, by Charles Schwab.

The first nine months of this year were the worst since 1926. All major fixed-income indexes are down in 2022, and some bond classes have fallen particularly sharply. The Bloomberg US 10-year composite index is down 29.5% through the end of November, and corporate credit is down 17.6%. Other double-digit losers include municipal bonds, high-yield bonds, preferred securities, securitized bonds, and treasury bonds.

Consider the hypothetical case of someone in the 37% tax bracket. Over a year ago, this person bought mid-term municipal bond mutual fund shares. Due to the market crash, that mutual fund’s value today is $9,000. This person, probably works with a Financial Advisor, could sell the mutual fund at a loss of $1,000 and use that loss to save on its tax liability, according to Charles Schwab. If one uses a $1,000 loss to offset other short-term capital gains, that person has the potential to save $370 on his or her tax bill, in other words, cutting the $1,000 loss la down to $630.

Wash-Sale Rules

SmartAsset: You'll never guess what you could use your tax-loss harvest for

SmartAsset: You’ll never guess what you could use your tax-loss harvest for

The wash-sale rules is an IRS rule intended to keep investors from unfair tax breaks. The rule says that investors cannot gain short-term gain from selling a loss-making security and then buying a similar security within the next 30 days. The “essentially identical” part of the rule is what often stumbles investors. IRS Publication 550, which includes capital gains and losses, does not give a strict definition of what falls under this description. Instead, it states the following: “Typically, the stock or securities of one company are not considered to be identical to the shares or securities of another company. However, they can be identical in some cases.”

Charles Schwab adds that you cannot avoid the wash-sale rule by selling a losing security in one account and buying it back within 30 days in another: “You can’t avoid it either: by having your spouse or a company you control purchase similar or identical security. The IRS reviews your transactions as a whole, not just on an account-by-account basis.”

How do I decide which bonds to sell?

Here are some criteria for deciding which bonds to sell:

  • Bonds have lost value. Consider the value of your securities against the cost basis, not your initial investment.

  • Bonds have shorter maturities. Tax-loss harvesting can be an opportunity to better position your portfolio in the current market environment. Charles Schwab said that most interest rate increase is likely behind us and investors should extend their average bond holdings to take advantage of the recent upside move.

  • Bonds with lower credit ratings. The opportunity to sell lower rated bonds at a loss opens the door to improving credit quality.

bottom line

SmartAsset: You'll never guess what you could use your tax-loss harvest for

SmartAsset: You’ll never guess what you could use your tax-loss harvest for

Fixed income securities have been restricted in 2022. That opens the door for tax losses to reduce losses and improve investment portfolio prospects for stronger benefits in the future. Just remember that the tax-loss harvest for bonds is slightly different than the tax-loss harvest for equity losses. If you’re not sure whether your bond loss is a candidate for tax-loss harvesting, consult an advisor. Financial Advisor or tax attorney.

Tax advice Investment advice

  • One Financial Advisor can help you decide how best to handle losses in the fixed-income securities in your portfolio. SmartAsset’s free tool connects you with up to three financial advisors serving in your area, and you can interview the right advisors for you for free to decide which one is right for you. If you are ready to find an advisor who can help you achieve your financial goals, start right now.

  • Use our free income tax calculator to see how much you will owe the federal government.

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