Net Investment Income Tax

Dec 6, 2013 by

harvesting tax lossesDo you have some losers in your investment portfolio (and don’t we all)? Now’s the time to think about selling out and booking a capital loss (called tax loss “harvesting”). Why? Because that loss may reduce your income tax bill come April. But you have to sell before January 1, 2014.

Affordable Care Act Surtax

If you meet the current government’s definition of “high-income,” selling and booking a capital loss in 2013 will save you even more on your tax bill because of a provision of the Affordable Care Act.

Beginning with 2013, unearned income for some will be hit with an extra 3.8% net investment income tax to help pay for Obamacare. The 3.8% surtax will apply to unearned income for these categories of taxpayers:

  • Single filers making more than $200,000
  • Married filers making more than $250,000
  • Married (filing separately) making more than $125,000

“Unearned income” includes most commonly interest, dividends, capital gains, passive rental income, annuity withdrawals (but not while in tax-deferral), and royalty income.

How To Harvest a Loss

Let’s say you bought 500 shares of Blackberry back in 2011 at $20 per share. (That was sporting of you! 🙂 .) You could sell at today’s price of about $6 per share and generate a capital loss of $14 per share. If you sold all 500 shares, your total loss would be $7,000.

How Much Tax Does a $7,000 Capital Loss Save You?

As with most things taxation, the answer to “how much tax does a $7,000 capital loss save you?” is: it depends.

First, the loss would offset any capital gains you may have logged in 2013. But for many of you, this particular loss wouldn’t save you any tax because taxpayers in the 15% or less marginal income tax bracket pay 0% tax on long-term (assets held more than a year) capital gains. You’ve held your Blackberry shares for more than year. So yeah, the loss can offset gains, but you wouldn’t have paid any tax on those gains anyway.

But say you’ve booked $2,000 in capital gains in 2013. Your Blackberry loss would fully offset that gain (whether or not you’re subject to tax on the gain), and then you could use $3,000 of the remaining $5,000 of your total loss to offset ordinary income. And you can “carry forward” to 2014 the left over $2,000 of your Blackberry loss.

If you’re in the 15% tax bracket, offsetting $3,000 of ordinary income, as in this example, will cut your tax bill by

$3,000 x 15% = $450

$450 is real money where I come from.

How much tax a $7,000 capital loss saves you depends on your tax bracket, your income, whether you’re subject to the 3.8% surtax, and the amount of capital gains you booked in 2013. This chart from the Tax Foundation will help you figure your savings from harvesting tax losses.

2013 capital gain tax rates

What If I Want to Hold On to My Blackberry?

Maybe you still harbor hope that Blackberry will somehow once again become a viable, profitable enterprise. Okay, that sounds like denial to me, but you’re entitled. Even the most optimistic among you probably don’t expect Blackberry shares to rise much over the next 30 days. You can both harvest your loss and hold on to your BBRY (sort of) by executing a “wash sale.”

  1. Sell your Blackberry shares now, booking the capital loss for 2013
  2. Wait 30 calendar days (I’d wait 31 to be sure)
  3. Buy back your Blackberry shares at the prevailing price

If you wait more than 30 days after selling to repurchase BBRY, you’re allowed to take the capital loss on your tax return. The risk of course is that you don’t know what the stock price will do during those 30 days. If you buy the shares back in fewer than 30 days, the IRS calls that a “wash sale” and you’re not allowed to claim the capital loss on your tax return.

Will You Be Harvesting?

Has anyone already done some harvesting of capital losses to cut your tax bill? Are you planning to do any? Will you buy back the shares you’ve sold after the 30-day wash sale window?

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  • Don’t forget that you can carry forward losses into following years that were more than $3k and were not used to offset dividends or cap gains. This was the one “good” thing about the Great Recession for us. I did tax loss harvesting at the bottom. I then used that to offset earnings and dividends for the next several years. I am hoping that when we eventually sell the taxable funds that TLH were used on, our tax bracket will be lower.

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