Strategies for Lowering Taxable Gains

Key Takeaways

Managing investment taxes can add another layer of complexity to your financial plan. Clients frequently ask about ways to minimize annual taxable gains. There are strategies—and working with a professional can help you work through your options and opportunities.

Financial consultants Amy Alley, Rowland Pepito and Jennifer Simmons share common tax discussions and provide insight on what to consider when you’re evaluating your investment and tax plans.

Gauging Overall Tax Awareness: Starting the Conversation

Some clients are more aware of their tax obligations and complications than others. Their knowledge might depend on how long they’ve been investing, what kinds of accounts they have (taxable vs. tax-advantaged) or how extensive their investment portfolio is.

“There’s a lot of fear of the unknown,” says Jennifer. “People have an aversion to talking about taxes, wanting to believe that they’re not going to get a surprise bill at the end of the year. The more specific we can be and apply strategies to their situation, the more they can overcome that fear.”

Clients understand that investments can come with a tax burden. But investing can be more tax efficient than they think—they have the potential to be taxed less on each dollar earned by their portfolio than on regular income because of the benefits of discounted qualified dividends and capital gains or municipal bond income. The challenge is that investments don’t offer withholding to avoid a year-end tax bill, especially as the portfolio gets larger.

To start the conversation, Rowland talks about tax efficiency in general, and then he provides examples.

“In 2022, we saw a big down quarter in the beginning of the year, so we can look at the ‘what ifs’ about the losses,” he says. “What if the investor kept track of those early losses and compared those with portfolio gains at the end of the year?” Effectively, they may have had no tax obligations because losses at the beginning may have offset later gains.

And that brings us to an often-overlooked strategy to manage taxable gains: tax-loss harvesting.

Tax-Loss Harvesting: Offsetting Taxable Gains With Losses

With this strategy, an investor intentionally sells an investment at a loss and reinvests the assets elsewhere. The goal is to offset taxable gains with those losses, thereby lowering the overall tax burden.*

Additionally, selling at a loss doesn’t necessarily have to be an investment loss—it could also be a tax loss. A client can have an account for years, have meaningful gains through the investment but actually lose money overall due to large tax payments over time.

According to our consultants, most of their clients don’t use the term “tax-loss harvesting.” Discussions often start by identifying pain points, and taxes on gains are often at the top of the list. Clients will then ask about tax-loss selling, offsetting or even “write-offs,” but they have the same end goal: minimizing taxes.

“We talk through methods to reduce their tax obligations,” says Amy. “We help them understand that tax-loss harvesting has the potential to be a win-win—you have a taxable gain in your fund and can still lower taxes elsewhere.”

Tax-loss harvesting is often seen as an end-of-year task, but Amy stresses that it’s important to consider the strategy as the opportunity arises. “We don’t address it every year,” she says. “But if there’s a market drop, it might be time to harvest strategic losses for the year.”

Also, when estimated distributions come out, clients can redirect capital gains distributions into something more tax efficient and not compound the problem with more shares each year.

But some clients take this strategy and go overboard, such as liquidating large positions in an attempt to capture a negligible tax loss.

Finally, selling investments isn’t the end of the story: Reinvesting is important to avoid missing out on potential market earnings. (See the “wash sale” rules about reinvesting into the same investment.) An advisor can help you determine where to put the assets as part of your overall investment plan.

Team Effort: Working With Your Tax Advisor

These conversations are a benefit of having a relationship with a financial consultant. You can work together to find blind spots and opportunities.

While our consultants can talk through investment-related tax issues, they don’t provide specific tax advice. On the flip side, tax professionals understand how investments are taxed but may not know the ins and outs of your unique investment portfolio. That can make it hard for clients to know when to take action.

Getting a tax advisor on board to run the numbers can help clients feel more confident putting a tax-loss harvesting strategy into place. CPAs may not be as familiar with investments, but they are a great resource to get clients comfortable with the concept.