While holiday shopping, travel plans, and family get together’s tend to preoccupy most peoples’ minds during December, the last month of the year is a particularly good time to pay attention to investment taxation. Though 2014 has been a broadly bullish year for investment grade bonds and broader equity indexes, recent market volatility, weakness in the oil patch, and a sell off in high-yield bonds may have many investors sitting on plenty of paper losses.
Here is my holiday shopping list of year end tax planning tips.
- Look Carefully At Your Losers
Since the IRS views capital gains and losses on a calendar year basis, November and December are popular months for investors to engage in what is known as tax-loss selling. Tax rules allow investors to offset or negate securities sold at a gain with securities sold at a loss. So if an investor sold stocks or bonds earlier in the year for a gain, they should be looking for losing securities to offset those gains and minimize capital gains taxation come April 15.
To see a list of high yielding CDs go here.
And even if there are no gains yet to offset, if a portfolio is heavy in the red, IRS rules permit an investor to generate $3000 of straight capital losses to report on Line 13 of Form 1040 through Schedule D. Investors should take advantage of paper losses and tax offsets to keep Uncle Sam as far from their wallets as humanly possible.
- Consider Stock Swaps
Let’s say we sold securities at the beginning of the year and generated a $10,000 capital gain. But we also decided to buy an oil stock like Chevron during the summer which is now sitting at a healthy loss. We could sell those shares and offset that $10,000 gain. IRS wash sales rules prohibit us from buying Chevron shares again for 30 days, however. As an alternative to waiting those 30 days, many investors will engage in what is typically known as a stock swap. A stock swap generally involves selling shares in one company and immediately investing the proceeds in another security.
So if our investor still wants to be exposed to big oil, they could conceivably buy shares in a similar name like Exxon, BP, or Royal Dutch Shell immediately upon disposal of Chevron. The same holds true for bond investors. If we are holding a high-yield bond fund that is in the red, we could sell that fund and rotate monies into another high-yield pooled product. As long as we don’t buy shares of the same security for the next 30 days, we are permitted to notate losses on Schedule D.
- View Tax-Loss Season Opportunistically
Given this “artificial” selling pressure that tends to materialize with regard to poorly performing securities at the end of the year, these same securities may also be viewed opportunistically by value investors. Couple the sell pressure with a lack of buy interest from investors disinclined to take a positions in downward trending stocks, and you could see unreasonably low security values developing. Once the tax-loss sell pressure diminishes, oversold securities may well start to see increased buy demand, providing for attractive profit opportunities on mis-priced assets. So if you are still looking at taking losses this year, you may also want to search around for some door-busting values that might be hiding in the aisles.
- It’s Too Late To Double Down, But Consider It Next Year
An additional method of year-end portfolio tax planning is to double an investment in a security before November 30 then sell half of it 30 days later, thus holding your position. This would be an alternative to a stock swap for those who have undying love for a particular security and think it may snap back at the end of the year. Since we are in the middle of December this strategy won’t apply this year, but it is a worthy consideration in upcoming years.
To conclude, f you haven’t taken steps to minimize your tax exposure this holiday season, it’s not too late. Take action before December 31 for savings come April 15. Paper losses can actually be a wonderful thing this time of the year!
About the author: Adam Aloisi has over two decades of experience investing in equities, bonds, and real estate. He has worked as an analyst/journalist with SageOnline Inc., Multex.com, and Reuters and has been a contributor to SeekingAlpha for better than two years. He resides in Pennsylvania with his wife and two children. In his free time you may find him discussing politics, playing golf, browsing antique shops, or traveling.