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Stock losses can offset capital gains tax bite

Fraser Horn and Dudley IrwinVail, CO, Colorado

Its human nature. An investor buys stock, watches it decline in value, but doesnt do anything about it — because selling a losing position is like admitting defeat.Ill only keep it until the price bounces back to what I paid for it, says the investor. But what if the price doesnt bounce back?Cut your losses and let your profits run, is an old investment axiom that is too often ignored. Too bad, since harvesting losses can lead to a potentially more profitable investment strategy and reduce your tax bill considerably.The ground rulesCapital gains are taxed as ordinary income at your individual tax rate if you sell your securities less than a year after you purchased them. Gains on securities held longer than a year are taxed, in most cases, at 15 percent.Losses can be used to offset gains for tax purposes. Short-term losses offset short-term gains dollar for dollar. So do long-term losses versus long-term gains. Losses that exceed the gains you generate during the year can be used to offset up to $3,000 in ordinary income. Losses above that amount can be used to offset future capital gains and a limited amount of future ordinary income.If youre in the 35 percent tax bracket and just sold a stock that had appreciated $15,000 from the time you purchased it two years before. You will now owe the IRS 15 percent of $15,000, or $2,250.Now lets say you also own a stock that has declined in value by $18,000 over the past several years. If you sell the stock, you can use $15,000 of the loss to offset the gain on your other position. The remaining $3,000 can be used to offset ordinary income that year.The result? A $2,250 savings on capital-gains tax that you would have paid if you hadnt harvested your loss, plus an extra $1,050 savings on tax that would have been due on the income you offset. Youve now eliminated a losing position from your portfolio and can use the proceeds of your stock sale to purchase securities with more favorable prospects.For many investors, selling a stock that has appreciated substantially can be an agonizing decision. On one hand, theres a profit to be taken; on the other, there are significant taxes to be paid.But what if you had a bank of losses that you could draw on to offset your gains when you needed them? You could make your investment decisions solely on the basis of whether an individual security was a viable candidate for future growth — not on whether selling it would be a taxable event.Other harvesting strategiesIf youre especially diligent about harvesting losses to maximum advantage, you might also think about:Taking up to $4,000 from the proceeds of your stock sale and contributing to a traditional or Roth IRA. You can even buy the same security you sold, subject to the wash-sale rules. Not only will you generate a loss for tax purposes, but youll gain the additional advantage of tax-deferred growth inside your traditional IRA or potential tax-free withdrawals from a Roth IRA.Reinvesting all the tax savings you accrued. In our first example, this would involve taking the $2,250 in capital-gains tax you saved, combining it with the $1,050 in ordinary income tax you avoided, and reinvesting it all in your portfolio. And while youre at it, consider reinvesting any state tax youve saved as well. The result can be dramatic incremental growth of your portfolio, especially over a long period.Provided by courtesy of Fraser M Horn/Dudley M Irwin, Investment Advisors with Berthel Fisher in Edwards, CO. For more information, please call Fraser M Horn/Dudley M Irwin at 926-2500. This article is intended for investment planning purposes only and is not intended as a recommendation to buy any of the companies mentioned. Registered Representative of and securities offered through Berthel Fisher & Company Financial Services, Inc. (BFCFS). Member NASD/SIPC. 1st & Main Investment Advisors is independent of BFCFS


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