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What is Tax Loss Harvesting?

Taxes are a big part of investments, and although they act a bit differently than traditional income taxes, investors have to be well-informed on how their trades can impact them. The two basic tax laws that every investor will experience are the short-term capital gains and long-term capital gains. Both of these taxes are applied when an investor sells an asset for a profit. 

Short-Term Capital Gains Taxes

A short-term capital gains tax is applied when an investor sells an asset for profit in one year or less. One disadvantage of the short-term capital gain is that they do not offer any tax benefit to the investor. The capital gain that you earned by selling that asset in less than a year is taxed at a taxpayer’s top marginal rate. This tax rate depending on your annual income, can range from 10% to 37%. This rule applies to brokerage accounts that are not tax-deferred. If you are using an individual retirement account (IRA), for example, you do not have to pay short term capital gains taxes as long as you don’t withdraw the money from the account. Investors that engage in short-term trading should be aware that the profits you are making could push you into the next tax bracket resulting in higher taxes.

Short Term Capital Gain Table
Short Term Capital Gain Table

Long-Term Capital Gains Taxes

Long term capital gains taxes are applied when you sell an asset that you’ve owned for more than one year for profit. Holding an asset for more than a year allows an investor to reduce the tax rate on profit. In 2018 the Tax Cuts and Jobs Act (TCJA) drastically changed the way long-term capital gains were taxed. Previous to the TCJA, long-term capital gains were closely aligned with income tax brackets, but the TCJA created a unique tax bracket for the long-term capital gains at 0%, 15%, and 20% rates.

As an investor, regardless of the commodity that you are selling, holding an asset for more than a year will always be beneficial to you. Regardless of the tax bracket you are part of; there are substantial tax advantages to holding assets for more than a year. 

As times change and investors look at other avenues of investing, we realize that long term capital gains sometimes are not always possible. The tax loss harvesting is a method used to reduce the taxes owed to the government by writing off your incurred losses from stocks.

Long Term Capital Gains Tax Brackets
Long Term Capital Gains Tax Brackets

Tax Loss Harvesting

Investors dread losses, but sometimes losses can help you more in the long run than profit. Tax-loss harvesting strategy is often used to offset losses within your portfolio to benefit investors during taxes. The approach involves selling an asset at a loss, buying a similar investment, and using the loss to offset the profit. Under current law, an individual that files taxes can offset $3,000 in damages from their ordinary income or other capital gains that were made that tax year even if you did not have more than $3,000 in capital gains the losses can be carried over to the next year.

Limitations of Tax Loss Harvesting 

Wash-Sale Rule

A wash sale is when an investor  buys or sells the same security within a 30 days period. To take advantage of tax-loss harvesting, you cannot trade the equal protection in a month and stack on the losses. The IRS will not allow you to write off the losses if this method is used.

Example of Tax Loss Harvesting
Example of Tax Loss Harvesting

$3,000 limit threshold  

An individual can deduct up to $1,500 in losses a year if they file as single. This limit for people that a file joint tax return is $3,000. Even with this limit, losses can be carried over to the next year.

How The Carrot App Can Help

Carrot App Alerts are a vital tool in maximizing your returns and minimizing your losses. Carrot’s system allows an investor to set up many types of alerts that can inform an investor of price movements. Utilizing alerts can alleviate the onerous task of constantly checking your phone for your price targets.

In order to take full advantage of price movements. You can set up alerts that track price change, percent change along with earnings and ex-dividend dates. To accurately track your losses and try to maintain a balanced portfolio, price change and percent change alerts are most effective as they alert you once an asset goes above or below your target. Accurately tracking your profits and losses is a vital step in making sure that you take full advantage of any possible tax benefits. 

Learn How Carrot Alerts Work 

Written by: Armand Bogdan
Published on: Thursday, July 16, 2020 5:00 PM

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