Simple definition
Tax-loss harvesting means selling an investment that's dropped below what you paid, on purpose, to lock in a loss you can use to offset taxable gains elsewhere. That lowers the taxes you owe on your winners. Think of it as turning a disappointing holding into a small tax break, so a paper loss does some useful work.
Why it matters
Harvesting losses can trim your tax bill in a year when you've sold investments at a gain, letting more of your money keep working. It applies only in taxable accounts, not retirement accounts. But tax rules are detailed and change, so it's easy to trip up without understanding them first.
Real-life example
Suppose you have a $3,000 gain from selling one fund and a $2,000 loss in another. Selling the loser lets you offset the gain, so you're taxed on about $1,000 instead of $3,000. These are rounded, hypothetical figures to show the idea; your own result depends on current tax rules.
Common mistakes
- Rebuying the same or a substantially identical investment within 30 days, triggering the wash-sale rule.
- Harvesting losses in a retirement account, where the tax benefit doesn't apply.
- Selling a good long-term holding just to grab a loss and hurting your real plan.
- Assuming there's no limit on how much loss you can deduct against ordinary income in a year.
Pro tips
- Mind the wash-sale rule: don't buy a substantially identical security within 30 days before or after the sale.
- Consider replacing a sold holding with a similar-but-not-identical one to stay invested.
- Track your cost basis so you know your actual gain or loss before selling.
- Check the current IRS rules or ask a tax professional, since the details change.
Related Money Dictionary terms
- Capital LossThe loss you take when you sell an investment for less than you paid for it.
- Capital Gains TaxThe tax you owe on the profit from selling an investment for more than you paid.
- Wash SaleSelling an investment at a loss and rebuying it within 30 days, which cancels the tax benefit of that loss.
- Capital GainThe profit you make when you sell an investment for more than you paid for it.
- Taxable AccountA standard investment account with no special tax breaks, where gains and dividends are taxed each year.
- Cost BasisThe original amount you paid for an investment, used to figure out your taxable gain or loss when you sell.
Frequently asked questions
What is the wash-sale rule?
The wash-sale rule blocks you from claiming a tax loss if you buy the same or a substantially identical security within 30 days before or after selling at a loss. Break it and the loss is disallowed for now, though it's added to the cost of the new shares. It's the main trap to avoid when harvesting losses.
How much of a loss can I deduct against my income?
Losses first offset your capital gains. If losses exceed gains, the IRS lets you deduct a limited amount of the net loss against ordinary income each year and carry the rest forward to future years. The specific dollar cap is set by the IRS and can change, so check the current rules before you count on a figure.
Does tax-loss harvesting work in a retirement account?
No. Tax-loss harvesting only helps in taxable brokerage accounts. Retirement accounts like 401(k)s and IRAs are already tax-advantaged, so selling at a loss inside one gives you no deductible loss to claim. The strategy is meant for regular investment accounts where gains and losses show up on your tax return.
Knowing what Tax-Loss Harvesting means is knowledge — the first half. A brick gets placed when you act on it: review your taxable account for holdings sitting at a loss and read the current IRS rules before selling anything.
Also builds: Investing
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Plain-English education — not personalized legal, tax, or investment advice.