Tax Smart Investing


Tax smart investing strategy means utilizing tax laws with stocks to obtain optimum investment results.

Long term investors face a dilemma that short term investors do not in that long term capital losses do not receive as favorable treatment as do short term losses.

All too often, investors buy stocks, put them away, and forget about them...until it's too late!

When they see their stocks down in value, they tell themselves, "Don't worry, it'll come back." My favorite definition of a long term investment is a short term trade that didn't work out!

The hallmark of the unsuccessful investor is the inability to take a loss. To them, taking a loss is the same as admitting to being wrong...'losing face'. They'd rather lose money! Unless they get by that barrier, they have no hope of being successful.

And the truth is, by using this tax smart investing strategy, they can enjoy the advantage of receiving both short term capital loss tax treatment for their losses and continue to hold their stocks for long term appreciation.

The maneuver you're about to learn, tax smart investing strategy, is similar in theory to how retail establishments treat their merchandise inventory at year end. It's called an inventory write-down.

Retailers, being a business, frequently adjust downward the value of unsold, or slow moving, merchandise and charge off the write-down as a business expense.

The net result is lower taxes owed while still holding the inventory for future sale.

Investors, not being a business, can't merely write-down the value of their stocks. They actually have to sell to establish a loss. Then buy them back.

However, there is a tax rule called a 'wash sale' which comes into play whenever an investor takes a loss and wants to buy back the stock to establish a lower basis.

The wash sale rule states that, in order to take a tax loss, replacement shares cannot be purchased either 30 days before or 30 days after the date of the loss transaction.

If replacement shares are purchased within those 30 days the loss cannot be taken on that years' tax return but instead must be added to the cost of the replacement shares which steps up the basis which defeats the purpose of the entire transaction.

This leaves the investor with a dilemma. What if, while the investor is sitting on the sidelines sweating out the 30 day waiting period, the shares start to rise?

If you thought of buying a call option to keep the stock from getting away from you, that won't work either.

If you thought of buying shares of a company in the same industry, that is allowed. But what if you aren't interested in the other company? That would mean extra trades and commissions. That's not utilizing tax smart investing strategy to its best advantage.

The best solution, in my opinion, is to first buy the replacement shares at least 31 days prior to the original shares going long term. Then, 31 days later, sell the original shares establishing a short term capital loss for the current year and leaving the investor with the same number of shares as before but with a lower cost basis.

Note that, although the investor is holding twice as much stock for 30 days, this is not the same as averaging down where the investor intends to hold on to both positions.

This tax smart investing strategy not only allows investors to hold shares in favored companies but also to maximize the significant tax advantages present.

As always, consult with a professional tax consultant before entering any taxable event.

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