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This is how tax loss harvesting works: the manager will identify positions with unrealized capital losses, sell the securities in question generating a realized loss for tax purposes, and replace the securities sold with others that offer similar characteristics. He might also simply buy back the security that was sold after thirty days have elapsed. This waiting period avoids the IRS’ Wash Sale Rule, which would void the realized loss on the original sale. Different managers will employ different strategies, depending on the nature of the portfolio and how specific their belief is in the particular security being sold.
For example, suppose you own a bond that has declined in value because of rising interest rates. The manager could sell the bond and buy another that had similar, but not identical characteristics. It might be issued by a different company in the same industry, or have the same credit rating, but slightly different coupon rate or maturity. This retains the income stream you expect, but harvests a loss that can be used to offset any gains you experienced last year.
In the case of stocks, sometimes a different stock in the same industry will be substituted. The danger of this strategy is that sometimes the market or the stock you’ve sold will move while you are waiting to buy it back or are invested in a less attractive stock in the same industry. As I said — this strategy does have some risk. If this short term risk concerns you, you should not request tax loss harvesting.
There is one tactic that may have little potential downside. If you have a mutual fund that is in a capital loss position and it is still prior to the ex date for the annual capital gains distribution, consider redeeming the fund and moving the money in a managed account with a similar strategy. This might be an opportunity to move up to a managed account and harvest a tax loss that can offset your gains.
Please contact us at (800) 541-7774 if you have any questions about the appropriateness of tax loss harvesting for your portfolio or to find a manager that might be good to replace a mutual fund you want to liquidate.
The attached report and information have been prepared or produced by WrapManager, Inc. from sources and data believed to be reliable. Information provided in this report is for educational and illustrative purposes only and should not be construed as individualized investment advice, as an offer to sell, or the solicitation of an offer to buy any security in any states where such an offer or solicitation would be prohibited by regulations. WrapManager, Inc. is not a tax advisory firm. We recommend you contact your tax attorney or CPA prior to utilizing any of the tax-related strategies mentioned or discussed. Returns and experiences will vary for each client. Each client’s risk tolerance and investment objectives are unique to them. Past performance may not be indicative of future results. No assumption that future performance of any specific investment or product made reference to directly by WrapManager, Inc., on its Web site and in marketing materials, will be profitable or equal the corresponding indicated performance level(s). If performance numbers are generated gross of fees, a client’s return will be reduced by investment advisory fees and any other expenses. Opinions expressed are those of WrapManager, Inc. and are subject to change without notice and are not necessarily those of Prospera Financial Services, Inc. its directors, parent company or its affiliates. Securities offered through Prospera Financial Services and cleared through First Clearing, LLC. Prospera Financial Services — Member FINRA/SIPC.