From a tax planning perspective, the end of the year is the "season of the harvest" for capital gains. Harvesting means you analyze your portfolio, determine your tax situation, and select investment sales to generate capital gains or losses, as your circumstances require.
Why consider the harvesting strategy? Think about how capital gains are taxed on your federal income tax return. Short-term gain, typically defined as gain from the sale of assets you've owned for a year or less, is taxed at ordinary income rates. Those rates can be as high as 39.6%. Long-term gain on assets you've owned longer than one year is taxed at rates that vary from 0% to 20%, depending on your income tax bracket.
Under long-standing rules, capital gains and losses from securities transactions, as well as dispositions of other capital assets, are "netted" for tax purposes. Netting means gains and losses initially offset each other. After netting, remaining losses can offset up to $3,000 of ordinary income for the year. Any excess is carried over to future years.
If you realize capital gains at year-end, those gains may be absorbed by previous losses, while any excess long-term capital gain is taxed at the favorable rates. This is especially advantageous if you realize short-term gain up to the amount of your losses. On the other hand, if you have prior capital gains, you might realize losses up to the amount of those gains.
Other tax factors may also come into play. For instance, capital gains are treated as "net investment income" for purposes of the 3.8% net investment income surtax. Realizing gains at year-end may trigger or increase your exposure to this tax.
Of course, taxes are only one consideration when making investment decisions. For help assessing whether a harvesting strategy will work for you, and for more year-end tax savings ideas, please give us a call.
Ong & Company is a professional accounting, tax, and advisory services firm. Our team of CPAs specialize in helping small businesses and individuals minimize tax expenses and maximize after-tax income. Headquartered in Corporate Woods in Overland Park, Kansas, we serve clients across the United States.