With 2008 in the rear-view mirror I thought readers might be interested in my December investing activities during the perennial tax-loss selling period.
What is Tax-Loss Selling?
Tax-loss selling (or tax gain/loss harvesting) is a very important tool an investor can use in a taxable investment account to reduce the tax burden (taxes you pay) now and in the future. Because capital gains are taxed, in Canada, at half your marginal tax rate (MTR) there is an incentive for many investors to sell investments at a loss prior to year end in order to crystallize those losses.
Say I were to invest equally in two stocks: ABC Inc. & MNO Ltd.
During the year the share price of ABC Inc appreciates 50% and I sell all my shares to lock in a gain. MNO Ltd’s share price falls 60% and now I am looking at a big negative in the loss column of my investment portfolio for this stock. Instead of paying tax on my 50% gain from ABC at tax time next year I can sell MNO to offset an amount of capital gains for this year. If I made $1,000 on ABC and had lost $1,200 on MNO I can sell MNO now and carry forward a tax-loss of $200.
If I still like the investing prospects of MNO in the future I can buy back the stock in 30 days and still retain the tax-loss that I’ve crystallized. The $200 loss can be carried forward indefinitely or applied to any previous capital gains I may have had in the past three tax years.
Strategy:
It’s no mystery that November and December each year are opportunities for investors to conduct some much needed housecleaning. This often includes rebalancing of portfolios, a re-concentration on asset allocation and selling investments in taxable portfolios for tax-loss selling purposes.
As a value investor I recognize that many taxable investors conduct tax-loss selling not because they believe the prospects of a specific company are poor, but because it helps them achieve a more tax-neutral position from gains they’ve achieved that year. Selling pressure pulls down the prices of equities that have experienced significant losses during the year and may present opportunities for a long-term investor such as myself to wade into the market and take shares off the hands of those seeking liquidity.
