As we begin 2023, one tax liability-reducing strategy is taking advantage of IRS rules that can mean losing money in one place may enable you to harvest money in another.
“Tax-loss harvesting” (TLH) is a tool allowed under IRS rules to reduce tax liability. The tactic involves capital gains and losses, and it somewhat resembles offsetting penalties in football, with an advantage for one side: there’s a capital gain here, and a capital loss there, which on the surface would seem to offset each other. However, with TLH, your team can still get a benefit, or in this case, to pay less in taxes.
To benefit from TLH you have to be eligible based on your tax status, meaning to stay out of trouble with the IRS a taxpayer must be careful to follow carefully all the rules governing the tax break.
Here’s an example of how TLH works: the stock market takes an additional hit in 2023, and you have a stock investment that has loses money. You decide to sell it at a loss. On the other side of the ledger, you sell a house, or even a stock investment that made money, giving you a capital gain – on which taxes are due, depending on your income.
The loss in one capital investment can be used to offset the gain from a capital gain, meaning your tax liability is reduced. Furthermore, if your losses outpaced the capital gains offset, you can apply the loss to up to $3,000 of your federal taxable income if you’re married and filing jointly ($1,500 for married couples filing separately). If the losses are still greater than the offset and reduction in taxable income combined, the remaining amount can be carried forward to the next tax year.
Capital gains are taxed anywhere from 15% up to as high as 28%.
For example, with respect to capital gains with a tax rate exceeding 20%, here are three considerations, from IRS Topic No. 409, Capital Gains and Losses:
- “The taxable part of a gain from selling section 1202 qualified small business stock is taxed at a maximum 28%
- “Net capital gains from selling collectibles (such as coins or art) are taxed at a maximum 28%
- The portion of any unrecaptured section 1250 gain from selling section 1250 real property is taxed at a maximum 25%”
Additionally, there are such issues to consider as whether the capital gain is short or long-term, the type of IRS form that must be used, and more.
A tax-reduction strategy that includes capital gains and TLH is a sound approach to saving money on federal taxes; however, it takes a thorough understanding of how to apply rules and law to the process. For that, working with an accounting professional gives you the best chance of harvesting a tax savings.
