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Many of you have recently received your 401(k) statements in the mail or reviewed them on line – and some are now calling them 201(k)s. Unfortunately the losses that you have in your retirement plan are not deductible.
If, however, you have any taxable, non-retirement investment accounts in which you have losses you may be able to claim them to reduce your current years’ taxes. There is a process known as tax harvesting that you may want to consider.
I am in agreement with most financial planners that selling assets simply because of a downturn in the market is generally not a wise idea. Good reasons for selling include: if you have taken more risk than you are comfortable with; if you are not diversified properly; if you feel you own a stock or mutual fund that will never increase in value; or if you will need cash in the near future. Tax harvesting is also another reason to sell.
With tax harvesting you sell enough mutual funds, stocks or other investments to generate up to a $3000 capital loss. If you have capital gains from other sources you can generate capital losses up to the amount of the capital gain plus the additional $3000. On your income tax return you will then reflect the $3000 capital loss. If you are in the 25% tax bracket the tax savings would be $750 federal plus your state tax savings.
Any loss in excess of the $3000 will have to be carried forwarded to the next tax year.
To avoid the loss being disallowed you cannot re-purchase the same mutual fund or stock for at least 30 days. The plan is if you want to own the same mutual fund/stock is to put the money in a money market account for the 30 days and then re-buy the asset. If you do not want to re-purchase that same mutual fund/stock you sold then you can take the money directly and re-invest in the asset of your choice.
The 30 day waiting period is very important. If you do not wait the 30 days you cannot claim the loss, it is disallowed. This is known as the wash-sale rule.
There is, of course, a risk. If the stock or mutual fund increases in price in the next 30 days you will miss that part of the up-swing. You need to consider the possibility of an increase in stock price against the tax savings.
Be sure that prior to selling a mutual fund or stock that you actually have a capital loss. Just because the value dropped in the current year does not mean there is a tax loss. There is a loss if the value of the asset now is less than what you originally purchased it for. If you bought a stock ten or fifteen years ago you may still have made a profit on the stock even though it is not as large as it was at the beginning of 2008.
If you would like additional information about wash sales see IRS publication 550 Investment Income and Expenses found at www.irs.gov.
