Tax Planning for Investments: Why Timing Matters

The key to long-term investment success is usually time, not timing. But timing can have a significant impact on the tax consequences of your investment activities. Here are a few strategies that you might want to consider for 2019 and beyond.

DS+B Team August 16, 2019
1. Hold on to an investment for at least 12 months
Even with the reductions to most ordinary-income tax rates under the Tax Cuts and Jobs Act (TCJA), your long-term capital gains rate could be as much as 20 percent lower than your ordinary-income rate. The long-term gains rate applies to investments held more than 12 months and remains at 15 percent for middle-bracket taxpayers and 20 percent for higher-income taxpayers. For this reason, holding on to an investment until you’ve owned it for at least a year may help to reduce your tax on any gain.
2. Use unrealized losses to absorb gain
Your capital gains tax liability is your realized capital gains netted against your realized capital losses. This means long- and short-term gains and losses can offset one another. If you’ve realized some big gains during the year, you might want to consider this strategy to lower your 2019 tax liability: Look for unrealized losses in your portfolio before year end, and consider selling them to offset your gains.
3. Remember the wash sale rule
The wash sale rule prevents you from taking a loss on a security if you buy a substantially identical security (or the option to buy it) within 30 days before or after you sell the security that created the loss. You can recognize the loss only when you sell the replacement security. So, if you want to achieve a tax loss without making a significant change to your portfolio’s asset allocation, don’t forget about the wash sale rule.
4. Consider a bond swap
When you make a bond swap, you sell a bond and take a loss. Then, you immediately buy another bond of similar quality and duration from a different issuer. In most cases, the wash sale rule won’t apply because the bonds aren’t considered to be substantially identical. The result: You achieve a tax loss without changing your economic position.
5. Mind your mutual funds

When choosing mutual funds, keep in mind that some have high turnover rates—and can create income that’s taxed at ordinary-income rates. Thanks to the lower long-term gains rates, funds that provide primarily long-term gains can provide a tax savings.

You may also want to avoid buying equity mutual fund shares late in the year. That’s because such funds often declare a large capital gains distribution at year end. If you own the shares on the distribution’s record date, you’ll be taxed on the full distribution amount. This is true even if the distribution includes significant gains realized by the fund before you owned the shares.

Lastly, don’t forget about earnings reinvestments. Unless you (or your investment advisor) increase your basis accordingly, you may report more gain than required when you sell the fund.

Which tax planning strategies are right for you?

Although the TCJA didn’t change the long-term capital gains rates, it did change ordinary-income tax rates and tax brackets. And this could impact the tax you pay on investments. If you haven’t already, be sure to ask your tax advisor how timing—or other factors—could affect your tax burden.