When markets become volatile, it's natural to feel uncertain about your portfolio’s performance. But under the right circumstances, downturns can present strategic financial planning opportunities. One such strategy is tax-loss harvesting, a method that allows investors to reduce their tax liability by offsetting gains with investment losses. 

While tax-loss harvesting cannot recover lost value, it can help you gain a tax benefit from those losses. If done correctly, this approach can support long-term wealth preservation by reducing capital gains taxes owed today, and potentially in future years. Below, we break down what you need to know.

What is Tax-Loss Harvesting?

Tax-loss harvesting is an investment strategy that involves selling investments that have declined in value to offset gains from other investments. The strategy can help lower your tax bill at the end of the year.

This strategy applies to taxable accounts rather than tax-advantaged accounts like 401(k)s or IRAs. It’s especially useful for offsetting short-term capital gains, which are taxed at a higher rate than long-term gains. 

How Does Tax-Loss Harvesting Work?

The process of tax-loss harvesting starts with looking through your investment portfolio to find any assets that have decreased in value since you purchased them. You would then sell those assets for a capital loss. Finally, you can use those investment losses to offset the tax liability on your capital gains.

Tax loss harvesting example

For example, let’s say you’ve sold Stock A in your portfolio for a $10,000 gain. Normally, you would be on the hook for capital gains taxes (15% for most people, assuming they are long-term gains). Instead, you decide to sell Stock B at a $10,000 loss, allowing you to offset all of your taxable gains.

You can also use $3,000 of excess losses to offset ordinary income annually, and any additional losses can be carried forward to future years.

Tax Implications and Benefits

The purpose of tax-loss investing is to lower your tax liability. There are three key ways you can use this strategy to your advantage:

1. Offsetting capital gains: First, you can use an unlimited amount of capital losses to offset your capital gains. If you have any capital gains for the year, you can sell other assets at a loss to eliminate some or all of your tax liability. In most cases, long-term losses will offset long-term gains, while short-term losses will offset short-term gains.
2. Offset ordinary income: If your capital losses for the year are greater than your capital gains, you can use up to $3,000 of those losses to offset your ordinary income. For example, if you had $10,000 in capital gains and $13,000 in capital losses, you could use the remaining $3,000 to lower your taxable income.
3. Carry forward losses: If you have excess losses of more than $3,000, you can carry them forward to future tax years to offset capital gains or ordinary income. Even if you can’t enjoy the tax benefit of those losses right away, you’ll be able to eventually. In fact, this strategy may even be preferable if you know you have a high-income and high-tax year coming.

Pros and Cons of Tax-Loss Harvesting

Tax-loss harvesting is an investment strategy with some real tax benefits, but it’s important to understand the potential risks and downsides before taking advantage of it:

Pros

• Lower tax liability: Tax-loss harvesting can be used to offset your capital gains and up to $3,000 of ordinary income to lower your tax bill for the year.
• Benefit from market volatility: Market volatility is inevitable when you’re investing, and tax-loss harvesting allows you to benefit from it rather than fearing it.
• Future tax planning: Thanks to the carry-forward rule, tax-loss harvesting can help with future tax planning, especially if you’re expecting a high-tax year in the future.
• Helps with portfolio rebalancing: Tax-loss harvesting can lower your tax bill and help you realign and rebalance your portfolio to best meet your goals.
• Increased compound growth: If you reinvest your tax savings, you’ll enjoy even more compound growth and long-term earnings.

Cons

• Subject to IRS restrictions: The IRS has a wash-sale rule that limits your ability to repurchase an investment right away after you’ve sold it for tax-loss harvesting.
• Could result in fees: If you pay transaction fees when you buy and sell assets, this strategy could cost you money, and may not be worth it if your fees are more than your tax savings.
• Only works if you have losses: If the market and your portfolio are doing well, you may not have any losses available to offset your gains, meaning you’ll be stuck with the full tax liability.
• Could defer taxes rather than eliminate them: If you sell an asset at a loss and then repurchase it at the lower price, you’re essentially just deferring your tax liability, since you’ll have a lower cost basis for the next time you sell it.
• Comes with opportunity cost: If you sell an investment while it’s down and it immediately bounces back, you could miss out on the price jump and end up having to repurchase at a higher price.

Rules for Tax Loss Harvesting

The IRS limits some tax-loss harvesting activities. The IRS wash sale rule prohibits someone from deducting a loss if they’ve repurchased a “substantially identical” security within 30 days before or after selling it for a loss.

For example, let’s say you sell Stock A for a $5,000 loss on October 1. If you repurchase Stock A on October 15, you wouldn’t be able to use the losses from your original sale to offset any of your capital gains.

That doesn’t mean there’s no tax benefit at all. If your loss was disallowed because it violated the wash sale rule, the IRS allows you to add the disallowed loss to your cost basis so that when you eventually sell it, you’ll have a higher cost basis and a lower taxable capital gain.

Who Can Benefit from Tax-Loss Harvesting?

Tax-loss harvesting can be beneficial for most investors who’ve sold assets for a loss in the current tax year, but there are some situations when it is (and isn’t particularly useful).

Tax-loss harvesting is especially useful for anyone who has significant capital gains for the year. If you’ve sold a lot of assets for gains, it may be worth exploring tax-loss harvesting to help mitigate some of that tax liability.

It’s also a good strategy for high-income investors. Individuals with income of $533,400 and couples with income of $600,050 or higher pay a 20% capital gains tax rate compared to the 15% that most people pay. This higher tax rate makes lowering your taxable gains even more important.

Finally, tax-loss harvesting could be beneficial for people who have short-term capital gains. Short-term gains are taxed at ordinary income tax rates, which are higher than long-term capital gains tax rates. You can avoid the higher tax bill by offsetting your gains.

On the other hand, tax-loss harvesting isn’t particularly useful to individuals with income of $48,350 per year or couples with income of $96,700 or less in 2025. If your income falls under these thresholds, you already have a 0% capital gains tax rate, meaning there are no gains to offset.

Tax-loss harvesting also isn’t necessary in tax-advantaged retirement accounts. You only pay taxes on these accounts when you withdraw money, not when you sell assets, meaning you don’t pay capital gains taxes like you would in a taxable brokerage account.

Tax Loss Harvesting Tips

1. Don’t wait until December

Many investors assume year-end is the best time to evaluate their tax strategy. But the wash-sale rule, which disallows a loss if you repurchase the same or “substantially identical” security within 30 days before or after the sale, means timing matters. Acting early gives you more flexibility. 

2. Leverage market volatility

Volatility can be unnerving, but it also presents opportunities. If your portfolio includes positions that are down, you can harvest those losses now to offset gains, either from this year or carried forward into the future. A plan-led investing approach means proactively evaluating these positions with your advisor, rather than reacting at year-end.

3. There is no cap on total losses harvested

You can harvest an unlimited amount of losses to offset capital gains. While only $3,000 per year can be used to reduce ordinary income, remaining losses can be carried over into future years, creating a valuable tax asset for the long term.

4. Apply the wash-sale rule across all accounts

The IRS applies the wash-sale rule to your entire financial picture, including IRAs, 401(k)s, and spousal accounts. For example, if you sell Stock X in a taxable account, you cannot buy it back in your IRA or your spouse’s IRA within the 30-day window. 

This makes coordination across accounts essential — that’s something a fiduciary-led advisor can help manage.

5. Mind transaction costs

While reducing your tax bill is a worthy goal, it shouldn't come at the expense of portfolio efficiency. If trading fees outweigh the tax benefit, the move may not be worthwhile. Your advisor or tax planner can help weigh the cost-benefit analysis.

6. Tailor to your portfolio composition

Tax-loss harvesting is not a one-size-fits-all strategy. For instance, if your equity positions are up but your fixed income holdings are down, selling select bond funds might help create a tax benefit without compromising your broader investment strategy. 

Your advisor can help identify which positions offer the best harvesting opportunities while maintaining your desired asset allocation.

Is Tax-Loss Harvesting Worth It?

Tax-loss harvesting is worth it for anyone who has a taxable capital gain, and who also has a losing stock in their portfolio that they can sell for a loss. You can use this strategy to offset your capital gains, reduce your taxable ordinary income, and even lower your tax bill in future years.

Just make sure that before you explore tax-loss harvesting, you work with a financial professional to determine if it’s the right path for you. It’s important to choose the right investment and timing and to avoid running afoul of the wash-sale rule.

If you’re interested in using tax-loss harvesting to lower your tax bill, reach out to a Wealth Enhancement Group advisor to set up a free consultation and find out if it’s the right fit for your financial goals.

Frequently Asked Questions About Tax Loss Harvesting

What is tax loss harvesting in simple terms?

Tax loss harvesting is a strategy where you sell investments that have gone down in value to realize a capital loss, then use that loss to offset gains from other investments and potentially reduce your tax bill for the year. 

Can tax loss harvesting help with both long term and short term gains?

Yes. Long term losses can offset long term gains, and short term losses can offset short term gains. If losses of one type exceed gains of that type, remaining losses can then offset the other type of capital gains. 

How much ordinary income can I offset with capital losses each year?

If your capital losses for the year are greater than your capital gains, you can use up to $3,000 of excess losses to offset ordinary income annually. Any remaining losses can be carried forward to future years. 

Does tax loss harvesting work in retirement accounts like 401(k)s or IRAs?

No. Tax loss harvesting is generally used in taxable accounts, not in tax advantaged accounts such as 401(k)s or IRAs. In those accounts, you do not pay capital gains taxes when you sell investments; taxes are addressed when you withdraw funds, depending on the account type.

Who is most likely to benefit from tax loss harvesting?

Tax loss harvesting tends to be especially useful for investors who:

• Have significant capital gains in a given year
• Are high income earners who may face a 20 percent capital gains rate
• Have short term capital gains, which are taxed at ordinary income tax rates

These investors may see a larger benefit from offsetting taxable gains. 

When might tax loss harvesting not be worth the effort?

Tax loss harvesting may offer limited value if:

• Your income falls in the 0 percent capital gains bracket, so there are no long term capital gains taxes to offset.
• You only invest through tax advantaged retirement accounts, where capital gains taxes on trades generally are not a concern. 

What is the wash sale rule and why does it matter for this strategy?

The wash sale rule prohibits you from deducting a loss if you sell an investment for a loss and then buy the same or a substantially identical investment within 30 days before or after the sale. If you violate this rule, the loss is disallowed in the current year and instead is added to the cost basis of the replacement investment. 

Is tax loss harvesting only something to think about at year end?

No. Many investors wait until December, but the wash sale rule’s 30 day window makes timing more sensitive. Reviewing your portfolio earlier in the year can give you more flexibility and more opportunities to harvest losses if they make sense for your situation.

This information is not intended to be a substitute for specific individualized tax advice. We suggest that you discuss your specific tax issues with a qualified tax advisor.

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