It’s been a while since I posted but thought I’d start posting about a tax strategy I’ve been running on my own.
This starts about a 1-1/2 months ago when I sold my apartment in Brooklyn. Since I had that apartment for very long-term, I had a sizable gain on the sale, a gain which exceeded the sales tax exclusion. Consequently, I have a fairly big incentive to reduce that gain as much as possible before the end of the 2016 tax year.
Since I’m retired, I also wanted to pick a strategy that would occupy some of my time. I settled on doing a portfolio loss harvesting strategy. This strategy is not my idea nor is it a particularly new idea. But it’s relatively straightforward and, if done appropriately, pretty impervious to challenge from the IRS.
I’ll try and explain the strategy below but for more detailed description of this type of strategy, you can check out this example, or just google search portfolio loss harvesting and rebalance.
I found this strategy appealing because, absent this strategy, I would normally purchase mutual funds from places like Vanguard or T. Rowe Price, etc. I typically invest in mutual funds (including ETFs) that have lower fees and that track indices like the S&P500. I don’t really have views on any particular stock but I do want exposure to the market as a whole. Certain mutual funds, particularly ETFs, may be managed tax efficiently (triggering losses to offset gains, etc.), but most funds cannot pass internal tax losses onto their investors. That is, losses generated inside the fund can shelter gain generated inside the fund, but cannot shelter losses outside of the fund. This doesn’t work particularly well for me since I’m trying to reduce the gain from the sale of my Brooklyn apartment.
At best, if the mutual fund shares went down in value, I could sell the shares of the mutual fund and take the loss on those shares. But even if I did this, there are still a couple of issues. Let’s say “Fund” owned X, Y, and Z stock and both X and Y went up in value by 5 each, but Z went down in value by 20. The first issue is that if I sell my shares in the Fund, I’d share in the 10 of net loss (not the full 20). Second, I might not want to sell the Fund shares since I want to continue my exposure to X, Y, and Z.
To some extent, both of these issues can be addressed by holding the stock directly rather than through the Fund. Obviously, if you hold X, Y, and Z directly, you can simply just sell the Z shares and take 20 of loss, rather than the 10 of net loss. The second issue can be addressed by selling Z stock and then purchasing a stock back that gives your new portfolio similar performance to your old portfolio of X, Y, and Z.
This is about the time you’d probably ask, well, “why don’t I just buy Z back?”. The only issue there is Section 1091 of the IRC which prevents so-called “wash sales”. In general, Section 1091 provides that where you cannot take a loss on the sale of stock if you acquired (or entered into an option or contract to acquire) the same or substantially identical stock within 30 days before or after you triggered the loss. Therefore, you can’t really buy Z back until at least 30 days have passed, but you can use your proceeds from the sale of Z to buy something else that perhaps gives your portfolio a similar exposure to Z.
In my particular case, I’m trying to invest in a portfolio of stocks that somewhat track the S&P500. Of course, I’m not buying all of the components of the S&P500. Just a representative sample. And when some of the stocks in the sample has a loss, I will replace it with a different stock that allows my portfolio as a whole to track the S&P500.
Next up, how I created my portfolio. Short preview: it’s akin to throwing darts. In later posts, I’ll tell you about my results.