Capital Gain Distributions and Tax Loss Harvesting

This article is original content written by Manchester, CT Financial Advisor Thomas Scanlon, CFP®, CPA

photo of apples in a basket

Year to Date Returns

 

Its late fall here in Connecticut.  Soon we will celebrate Thanksgiving.  Investors certainly have a lot to be grateful for this year. The markets (so far) have been kind to investors in 2019.  Through November 12, 2019, the Standard & Poor’s 500 Index has returned 23.3%. (1) That’s quite a year.

Oh, and there are a little under two more months to go.

 

Capital Gains Distributions and Tax Rates

 

Many mutual funds will pay out a capital gain distribution.  In 2018, 86% of all U.S. equity mutual funds paid a distribution.  Of those that paid a distribution, the average capital gains distribution was 11%. (2) This is typically done towards the end of the year.  This is taxable income to the investors in these mutual funds. Some mutual funds have lower capital gains distributions and therefore are considered more tax efficient, others have higher capital gains distributions and therefore are considered less tax efficient.

Capital gains distributions, along with other capital gains transactions are subject to capital gains taxes.  Short-term capital gains, which is for sales of capital assets held less than a year, are taxed at your ordinary income tax rate.

For long-term capital gains tax, which is for sale of capital assets held longer than a year, there are five different rates of capital gains taxes as follows:

> The 0% rate applies if your income is very modest

> The 15% rate is the predominate rate many investors will pay

> The 20% rate applies if your income exceeds a certain threshold

> The 25% rate applies for certain real estate

> The 28% rate applies to small-business stock and collectibles

 

Net Investment Income Tax

 

In addition to the capital gains tax, investors may be subject to the Net Investment Income Tax (NIIT).  This tax is applied to interest, capital gains, dividends, passive activities and rental and royalty income.  The rate on this tax is 3.8% if the income is above certain thresholds.  This threshold is having modified adjusted gross income of over $200,000 as a single filer and $250,000 as married filing jointly.

 

Wash Sale Rule

 

Investors need to be aware of the so-called Wash Sale Rule.  This is an income tax rule regarding sales of capital assets at a loss.  A wash sale occurs when a capital asset is sold for a loss and then this asset is purchased within 30 days or it was purchased 30 days prior to the sale.  The wash sale is not allowed as a capital loss. When selling securities for a loss, it is important to be cognizant of this rule so as to minimize or eliminate and wash sales that are not income tax deductible.

 

Capital Loss Carryover

 

For income tax purposes, capital gains and losses are netted out.  If the net amount is a capital loss, the most that can be deducted in any tax year is $3,000.  Any capital losses above this amount are carried over into future tax years and can be offset with any capital gains.

 

Action Item

 

It’s important to review your portfolio and mutual fund holdings.  To the extent there are capital losses that can be recognized, it may be appropriate to sell these positions to offset any other capital gains or capital gains distributions.

It is important for investors to be aware of all of the income tax strategies investors can avail themselves to.

Having said that, it’s important not to let the tax tail wag the dog. 

  • Wall Street Journal – November 13, 2019
  • Russell Investments – September 15, 2019
Tagged with: , , , , ,

Check the background of this investment professional on FINRA's BrokerCheck

Securities offered through Raymond James Financial Services, Inc., Member FINRA / SIPC
Investment advisory services offered through Raymond James Financial Services Advisors, Inc.

These services are not available in all states. We may only transact business in your state if first registered, excluded or exempted from state broker dealer, investment adviser, BD agent or IA rep registration requirements. Please contact us for approval in your state. No follow up or individualized responses will be made by the firm, or its representative, in the state unless all registration requirements have been complied with by the firm and its representatives. This site is published for residents of the United States only. Raymond James' Financial Advisors may only conduct business with residents of the states for which they are properly registered. Therefore, a response to a request for information may be delayed. Please note that not all of the investments and services mentioned are available in every state. Investors outside of the United States are subject to securities and tax regulations within their applicable jurisdictions that are not addressed on this site. Contact your local Raymond James office for information and availability.

Your privacy: Raymond James has policies that restrict access to nonpublic personal information about you to those employees, associates and others who have need for that information to help us run our business, manage your accounts, market or provide investment alternatives or services to you, or to employees, associates, and others who assist those who help us run our business, manage your accounts, or market or provide investment alternatives or services to you. Additionally, we maintain physical, electronic, contractual, and procedural safeguards to protect your nonpublic personal information. RJ Privacy Notice

Links to other websites: Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website's users and/or members.

“Certified Financial Planner Board of Standards Inc. owns the certification marks CFP®, CERTIFIED FINANCIAL PLANNER™, CFP® (with plaque design) and CFP® (with flame design) in the U.S., which it awards to individuals who successfully complete CFP Board's initial and ongoing certification requirements.