Tax-loss Selling May Be “Silver Lining” in Dark Year for Investors

Tax-loss Selling May Be “Silver Lining” in Dark Year for Investors

As you know, 2008 has been a pretty rough year for the stock market. In fact, if you’re like many people, you might not have wanted to even look at your investment statements for the past several months. Yet, if you have indeed sustained sizable losses, you may be able to use them to your advantage — through a technique called tax-loss selling.

As the name suggests, tax-loss selling involves selling off some of your "losers" and putting the tax loss to work for you. However, you can't just use these losses in any way you choose. First, you must apply losses against long-term capital gains (from the sale of stocks you've held for more than a year), which are taxed at a maximum rate of 15 percent. Once you've used up your long-term gains, you can apply any remaining losses to offset short-term capital gains (from the sale of stocks you've held less than one year), which are taxed at your current tax bracket.

If your losses are greater than your capital gains, or if you didn't have any capital gains to begin with, you can take up to $3,000 in losses to offset ordinary income (wages or investment income from bonds, CDs or stock dividends). If you still have losses, you can carry the remainder forward to future years.

Don't “wash out”
To claim a capital loss, you must sell a stock — and you might not really want to part with it. You may believe that, despite its current decline, it still has good prospects. So, can you sell the stock to establish your tax loss, and then buy it back at a lower price?

It's not that simple. In the eyes of the IRS, if you sell a stock and repurchase it — or if you buy a “substantially identical” security — within 30 days, you're making a “wash sale,” and you won't be able to deduct any losses resulting from this transaction. And this rule applies to purchases you make within 30 days before or after you sell your stock.

How can you avoid this wash sale problem?  You could wait at least 31 days after the sale before repurchasing the stock. Or you can sell your shares for a loss and purchase stock of a different company — one that's in the same industry and that has performed similarly to the stock you sold. You can then wait at least 31 days, sell the new stock and repurchase the original stock.
Keep in mind, though, that any purchase you make within the 61-day time frame could violate the wash sale rules. So you may need to temporarily suspend a dollar cost averaging plan, under which you buy the same amount of stock shares each month. You'll also have to be alert if you automatically reinvest dividends and capital gains.

Get professional advice
If you want to engage in tax-loss selling in 2008, you’ll need to act before the year runs out. First, however, see your tax advisor to make sure this move is appropriate for you. Mistakes can be costly — so you'll want to get things right the first time.

This article was written by Edward Jones for use by your local Edward Jones Financial Advisor. Edward Jones, its associates and financial advisors do not provide tax advice.