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Taxes: They can’t be avoided. But they can be managed. A tax-loss harvesting strategy may help you keep more of what you earn. Find out how it all works and why we think a customizable separately managed account can be an effective way to potentially maximize tax efficiency.
Simply put, tax-loss harvesting is a strategy designed to reduce your overall tax bill so you can keep more of what you earn from your investments. It works by selling investments at a loss and using those losses to offset some, or possibly all, of the capital gains from investments that you sold at a profit. For example, if an investor buys a stock at $400 and sells it for $500, they realize a capital gain of $100. This will trigger a capital gains tax (the amount will depend on variables such as the investor’s marginal tax rate, state and local tax rates and how long they held the stock). However, if the investor sells another security at a $100 loss, they can use that realized loss to offset the gain from the sale of the other stock. As a result, the net realized gain is reduced and the investor’s overall tax bill is lowered.
This can vary depending on your objective and risk tolerance. If your objective is increased after-tax returns and you are comfortable with an index-oriented strategy, you may consider a customizable separately managed account, or SMA, which allows a manager to reduce your tax bill by “harvesting” losses while maintaining broad market exposure.
The realized losses are then used to offset capital gains incurred in other parts of the investor’s portfolio.
There are many ways for investors to end up with a tax bill at year end. Examples include investment gains from other active managers, capital gains distributions from mutual funds, selling appreciated real estate, private equity distributions or investing in hedge funds which may not be tax efficient.
No, not at all. The purpose of tax loss harvesting is not to pick losing stocks. It is simply to help investors benefit from naturally occurring market volatility and dispersion in stock returns. Think about it this way: even in years when an index such as the S&P 500 delivers a positive return, not every single stock in the index has a positive return throughout the year. Some stocks experience losses throughout the year and may even end the year in the red.
While market returns vary from year to year, volatility is a constant. Volatility and dispersion of stocks returns create potential opportunities to harvest losses which adds value to an investment portfolio by potentially increasing after-tax returns. Of course, the amount of potential tax savings depends on the market environment— typically, a low-return year will provide more harvesting opportunities than a high return year. But we believe the strategy can work in any market environment because losses exist in all market environments.
GSAM Tax Loss Harvesting seeks to provide value in all market environments.
Source: Goldman Sachs Asset Management, Standard & Poor's. As of December 31, 2020.
There is no guarantee that these objectives will be met. Goldman Sachs does not provide accounting, tax, or legal advice. Please see additional disclosures at the bottom of this page. Past performance does not guarantee future results, which may vary.
ETFs generally have low expenses, and most are passively managed and structured to track an index. But when it comes to tax efficiency, there are three key differences.
When repeated in a systematic way, year in and year out, tax-loss harvesting can reduce your tax bill. That means an investor is not only saving money on their taxes in a given year, but they can reinvest those tax savings for potential growth in the future. And the longer a portfolio stays invested, the more time it has to grow and compound.
Potentially, though investors in the highest tax brackets stand to benefit the most. This is because the higher the tax bracket, the bigger the potential savings. It also helps to have capital gains from other parts of a diversified investment portfolio. This could include gains from selling down concentrated stock, private equity or other active managers. If an investor doesn’t have capital gains from other investments in a particular year, harvested losses can be used to offset $3,000 in ordinary income per year. This includes interest, wages, dividends and net income from a business. Any excess losses can be carried forward indefinitely and used to offset capital gains in the future.
Tax-loss harvesting may be especially well-suited to investors who plan to donate their portfolio to charity or bequest it to heirs, as this would not involve realizing capital gains. Investors who plan to liquidate their portfolio eventually would then pay taxes on realized gains. But If they employed tax-loss harvesting over a long investment horizon, they may find that the portfolio appreciated more than it would have had it been invested in an index strategy without tax management.
1. Diversification does not protect an investor from market risk and does not ensure a profit.
2. See Capital Losses: https://www.irs.gov/pub/irs-pdf/i1040sd.pdf
There is no guarantee that objectives will be met.
Goldman Sachs does not provide accounting, tax or legal advice. Please see additional disclosures at the end of this presentation. For informational purposes only.