End of the Year Tax Play: Sell Losing Investments

By Miranda Marquit (Staff Writer), on December 14, 2009

As the year draws to close, it’s time to take stock of what you are doing to increase your overall tax efficiency. If you are looking to get a few more deductions, this is the time to do so, whether you are paying points for a mortgage or donating to charity. And another way you can increase your tax efficiency is to sell some of your losing investments. Do a financial checkup, and see what you can do to get ready for tax time. The deduction you get for selling your losing investments can dull some of the pain associated with a less than stellar year for your portfolio. Here are some of the basics of selling your losing investments:

1. Use investment losses to offset capital gains: You can use some of your losses to offset capital gains taxes. This can help you reduce your capital gains, and lower the taxes you pay. You have to sell though; paper losses don’t count when it comes to tax filing. You have to sell – and clear – the stocks by the end of the year. If you have $15,000 in losses and $10,000 in gains, you can offset the gains, and still $5,000 “left.”
2. You can reduce your taxable income by up to $3,000 (if married filing jointly, $1,500 if single) with investment losses: So don’t get too carried away and sell everything. Carefully consider which investments to sell, and consider how they match up with your capital gains. In our example above, you can use $3,000 of that $5,000 to reduce your taxable income. Use Schedule D for this. Even those in a lower lower tax bracket can see some savings.
3. Carry your losses forward to another year: Since you still have $2,000 “left”, you can actually carry it forward to another year. This way you “bank” your losses for use another year. However, you should be careful; you are still limited on the amount you can reduce your taxable income by, so piling up too many losses can start to lose its luster. Carefully plan out how you will do this. It can be wise to sell investments you think are unlikely to recover in the future.

Things to watch out for during this process include the IRS “wash-sale rule” and transaction fees. Be aware that the IRS will disallow deductions on losses if you sell your stock and then buy something that is “substantially identical” within 30 days. If you plan to sell losing investments as a tax play, you have to be careful of what you buy for a month afterward. Additionally, you want to double check the transaction costs associated with the sale. In some cases, the cost of the transaction can reduce the overall value of your tax deduction.

Another way that you can benefit from selling your losing investments while helping others is to take the cash you do end up with and donate it to charity. That way, not only do you get to count the loss, but you can also itemize a charitable donation. This can help reduce your taxable income while helping others. Donate a losing stock without cashing out, though, and you will lose out. (If you have a winner and donate it, you can avoid capital gains taxes and deduct the full value of the investment.)

It is a good idea to talk to a trusted tax professional about your options as you contemplate how you can dull the pain of an investment loss. At the very least, you should formulate a plan that allows you to take best advantage by getting rid of investments that are unlikely to succeed going forward and matching them up with some of your capital gains. Tax efficiency is a bit of an art, but with some research and/or professional help, you should be able to streamline things so that you owe less than you thought.

Recommended articles:

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• What’s Your Financial IQ? Here’s A Test
• 5 Tax Deductions To Take This Year
• Economic Stimulus 2010: More Help for Your Finances
• How to Avoid a Tax Audit

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Miranda is a journalistically trained freelance writer and professional blogger working from home. She is a contributor for Mainstreet.com, Personal Dividends and several other sites. You can also find her at The AllBusiness Personal Finance Corner.

All posts by Miranda Marquit (Staff Writer)

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