While we would all love to follow the timeless investment advice to “buy low, sell high”, the reality is that it is very difficult to time the market. One of the risks of investing is that it is always possible to lose what you put into it, especially if you have need of the money you’ve invested. Thankfully, losses can actually be used to benefit your portfolio should you need them to.
What is Tax Loss Harvesting?
This is the practice of determining which assets in your portfolio are at a loss and then using those losses to offset your gains to reduce your tax obligations. Capital gains can be reduced by capital losses, thus you are taxed on your net gains after losses are factored in.
Easier said than done!
Many people have been growing their portfolios over the course of their life time and at times even have investments passed on to them from a loved one. This presents an emotional challenge to many investors who don’t want to lose money or be “wrong” about their investment decision. They may also “enshrine” a loved one with the inherited assets and not want to do anything with them.
How does this affect my passive income portfolio?
Your portfolio may consist of stocks spread out across different accounts or multiple types of assets paying you income. No matter the construction of your portfolio, you’ll want to review where your money is invested and if it is still allocated to your benefit.
You may find that some assets are reinvesting at lower and lower prices and you’ve acquired more shares than you care for. Couple that previous example with one where you’ve seen a huge capital appreciation you were not expecting in another investment and want to lock in the gains by selling it before they disappear. This may be an opportunity to rebalance your portfolio, or in other words reallocate where your money is invested.
With our fictitious example you may decide to sell both the asset declining in price and the asset inclining in price. By selling, you are “realizing”, or accepting, the gains and losses of the assets. A competent tax advisor will then be able to help you see, based on your particular financial circumstances, which losses can offset your capital gains. Losses can even be carried forward to future tax years for continued benefits if you don’t use them all! This is one of the reasons why diversification is important among passive income generating assets.
