Revised July 17, 2023, Originally Posted September 27, 2022

According to the IRS, the deadline to submit 2021 tax returns or an extension is Monday, April 18, 2022, for most taxpayers. By law, holidays impact tax deadlines. The due date is April 18th instead of the 15th because of the Emancipation Day holiday in the District of Columbia. Taxpayers in Maine or Massachusetts have until April 19th to file due to the Patriots’ Day holiday. The deadline to file for those requesting an extension is October 17, 2022.

Since we are approaching tax season, we thought it would be helpful to review the potential benefits of tax-loss harvesting. Tax-loss harvesting is achieved by selling an investment with a loss and immediately purchasing a different security with similar (but not identical) exposure. The key points are:

1. The loss on the sold security can be used to offset taxable gains. If there are losses in excess of any gains, up to $1,500 for an individual or $3,000 for married filing jointly can be used against ordinary income. Unused tax losses can be carried forward in perpetuity. The IRS rules on capital gains and losses can be found here.
2. Since we simultaneously sell a security to capture a loss and purchase a different holding with similar exposure, the client is never out of the market. We can capture losses during declines, and when the market potentially recovers the new position may also recover PLUS the client has a tax-loss to offset future gains.  Please note that tax loss harvesting does not protect against loss.

• Here is a simple example: Assume a client buys $10,000 worth of ABC security and one month later the price has declined by -15%. The client can sell the entire position of ABC for $8,500 and buy a similar (but not identical) position for the same amount, let’s say the new position is XYZ holdings. Now assume that the value of XYZ holdings increases back to $10,000. The total value of the position is unchanged, but the client has a $1,500 tax loss to use against future gains. This is a hypothetical example and is not representative of any specific situation. Your results will vary. The hypothetical rates of return used do not reflect the deduction of fees and charges inherent to investing. Past performance is no guarantee of future results. No strategy assures success or protects against loss.
• Note, to ensure that investors do not sell a security to capture a loss and immediately buy it back, the IRS has implemented the “wash sale” rule. The rule states an investor cannot sell an investment at a loss and then buy a “substantially identical” security within 30 days before or after the sale.

We periodically look for opportunities to execute tax-loss harvesting trades in actively managed portfolios. Typically, the best instances occur during significant market declines – the most recent best examples are December 2018 and February/March 2020. In 2022, we have started to tax loss harvest positions when appropriate. If the market declines further, we will increase the tax loss harvesting.  Remember that no strategy assures success.  All investing involves risk, including loss of principal.

Having a dynamic process and the proper technology to tax loss harvest is critically important as market declines occur frequently. The S&P 500 has averaged a peak-to-trough decline of about -15% each year since 1928 despite producing a total annualized return of +9.7% over the same period. (Source: Bloomberg). Historically, equity markets have recovered from recessions and downturns; however, past performance is no guarantee of future returns. It is important to consider your own risk tolerance, financial circumstances, and time horizon when investing. When the inevitable market decline happens, we try to make lemonade out of lemons by tax-loss harvesting and rebalancing portfolios. These activities can provide significant benefits by capturing losses and/or reallocating to more attractive securities.  Rebalancing a portfolio may cause you to incur tax liabilities and/or transaction costs and does not assure a profit or protect against a loss.

At Winthrop Wealth, we apply a total net worth approach to both comprehensive financial planning and investment management. We believe financial planning drives the investment strategy and provides a roadmap to each client’s unique goals and objectives. The comprehensive financial plan defines cash flow needs, is stress tested for various market environments, seeks to optimize account structures, considers tax mitigation strategies, and periodically evaluates financial risks as circumstances and/or goals change. The investment management process is designed to provide well-diversified portfolios constructed with a methodology based on prudent risk management, asset allocation, and security selection.  It is important to remember that no investment strategy assures success or protects against loss. Asset allocation does not ensure a profit or protect against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio.