When investments lose value, there's a silver lining: you can use those losses to reduce your taxes. It's called tax-loss harvesting.
How It Works
- Sell an investment that's lost value
- Use the loss to offset capital gains
- If losses exceed gains, deduct up to $3,000 from ordinary income
- Carry forward remaining losses to future years
You turn paper losses into real tax savings.
The Math
Without tax-loss harvesting:
- Capital gains this year: $10,000
- Tax owed (15% rate): $1,500
With tax-loss harvesting:
- Capital gains: $10,000
- Harvested losses: $8,000
- Net taxable gains: $2,000
- Tax owed: $300
Tax savings: $1,200
The Wash Sale Rule
Watch Out
You can't sell a stock and immediately buy it back. The IRS isn't that easy to fool.
The Rule: If you buy a "substantially identical" investment within 30 days before OR after selling at a loss, the loss is disallowed.
What's "substantially identical"?
- Same stock = identical
- Same = identical
- Similar from different provider = usually OK
- S&P 500 ETF → Total Market ETF = usually OK
Harvesting Strategies
Strategy 1: Swap and Hold
- Sell losing investment
- Immediately buy similar (but not identical) investment
- Stay invested, but harvest the loss
Example:
- Sell Vanguard S&P 500 ETF (VOO) at a loss
- Buy iShares S&P 500 ETF (IVV)
- Same exposure, different fund, loss harvested
Strategy 2: Wait 31 Days
- Sell losing investment
- Wait 31 days
- Buy the same investment back
Risky if the market moves against you during the wait.
When to Harvest
| Situation | Action |
|---|---|
| Significant unrealized losses | Harvest to offset gains |
| No capital gains this year | Harvest up to $3,000 for income offset |
| Large tax bill coming | Harvest to reduce it |
| Year-end | Review portfolio for opportunities |
Pro Tip
You can harvest losses even in tax-advantaged years. Up to $3,000 offsets ordinary income—valuable even if you have no capital gains.
What NOT to Do
Avoid This
- Harvesting in tax-advantaged accounts (no benefit)
- Violating wash sale rule
- Selling just to harvest when you don't believe in the swap
- Over-complicating with too many transactions
- Forgetting to track cost basis
Automated Tax-Loss Harvesting
Some robo-advisors do this automatically:
- Wealthfront
- Betterment
- M1 Finance
They scan daily for opportunities and handle the wash sale rules.
The Long-Term Impact
"I've harvested $50,000 in losses over 10 years. At my tax rate, that's saved me roughly $12,000 in taxes—money that's been reinvested and compounding."
Quick Win
Review your taxable brokerage account. Any positions down 10%+ from your purchase price? Those might be candidates for harvesting.