Year-End Tax Loss Harvesting

If you’ve ever looked at your investment account in December and wondered, “Is there anything smart I should be doing before the year ends?” you’re not alone.

As the year wraps up, I’m reminded of two types of investors. One simply lets the winners and losers sit where they are. The other takes a few minutes to look at positions that are down for the year, not because they are giving up on them, but because the IRS treats a realized loss as something valuable.

This move is called tax loss harvesting, and it is simpler than it sounds. When you sell an investment that is currently at a loss, that loss becomes real in the eyes of the IRS. You can then use it to offset gains you have taken elsewhere, and even reduce up to $3,000 of ordinary income. Any unused losses carry forward into future years.

People often do this in December because the tax year closes on December 31st. Think of it as a quick year-end clean up, trimming a few under performers so your taxes stay lighter and your portfolio starts the new year refreshed.

And no, you do not have to abandon a strategy or the stocks you believe in for the long run. The IRS has a rule called the wash sale rule. If you sell an investment at a loss and buy it back, or buy something substantially identical, within 30 days before or after the sale, you generally cannot claim that loss on your taxes at that time. In other words, you cannot sell an investment just to capture the tax benefit and immediately buy back essentially the same investment.

This leaves you with two choices. In the case of an ETF or fund, you can buy something that gives you similar market exposure, as long as the replacement is not considered substantially identical under IRS rules. For example, you might sell one technology ETF for a loss and immediately buy a different technology ETF. This keeps you invested in the same general theme while still capturing the tax benefit.

The other choice is to wait the full 30 days and buy back the original investment on the 31st day or later. The challenge is that the stock could rebound during that time, and you might miss that recovery. For this reason, many investors prefer shifting into a similar investment rather than stepping out of the market completely.