Tuesday, December 1, 2009

Reversing Last Year's Trade or Booking GAINS for Once

As part of my usual end of the year pontificating about tax strategies, I'm going to discuss capital losses and gains first. Why? Because the topsy-turvy nature of our capital markets from 2007-2008 to 2009 may give some opportunities for some unique strategies.

About this time last year I would have been advising you to offset capital gains with capital losses. In other words if you had sold profitable investments (lucky you!), I would have suggested you try to find some losing investments you could sell to minimize or eliminate your capital gains tax. In that environment it wasn't hard. However, a lot of investors now have significant losses in 2008 being carried over, and may have additional losses in 2009. Capital losses offset capital gains, and any excess losses are deductible up to $3,000 per year, which, given the degree of the carnage in the markets the past few years, may seem like a pittance to some. For example, if you suffered $100,000 of total capital losses in your portfolio but only $50,000 in capital gains, then your net capital loss is $50,000, but your total capital loss deduction for the tax year is merely $3,000. The remaining $47,000 in losses are carried over to next year. If this is you and, as a result of this you decided to stop investing and therefore never had another capital transaction, it would take you about 17 years(!) to fully utilize your carry-forwards.

What to do? Well, we might need to reverse the traditional advice and try to sell off investments with gains to offset losses.You could sell off profitable investments and repurchase them immediately. This books a capital gain for tax purposes, uses up some losses, and gives you a new cost basis position in the investment. You might be thinking, isn't this tactic prohibited by the wash sale rule? No, the wash sale rule only applies when you sell an investment at a loss and repurchase the same investment within thirty days. If you're selling an investment at a profit, the wash sale rule doesn't apply.

A little used tactic is to give appreciated stocks and other investments to someone with significant capital losses. Taxpayers can give up to $13,000 per year per person tax-free as part of the annual gift-tax exclusion. Under the scenario put forth above, a family member could give this individual stock or mutual funds or other investments that have appreciated in value with a cost basis of $13,000. The gains will be offset by the losses, and thus eliminating any capital gains tax.

One other note. You may want to think about the TIMING of the use of your losses. (I talked about this in my article on tax shifting.) President Obama has proposed increasing the tax rate on long-term capital gains to 20%. Perhaps you may want to keep carrying over some capital losses to offset future capital gains.

See your trusted tax advisor or planning professional about any of this.

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