facing unexpected capital gains - tax loss harvesting options...

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Sat Mar 18, 2017 1:04 pm

Hello,

This is my first post but I've been a long time reader. Looking for advice.

Situation:
My employer will be acquired this year. When this happens, I will get cash for all my company shares (both vested and currently unvested) and pay ~45% marginal tax on roughly half of proceeds. I am looking for tax loss harvesting options to offset this bill.

What to do:
The only idea that comes to my mind - create a temporary high volatility portfolio - select 10+ "troubled" stocks that are reasonably expected to either double or drop by half soon. Sell/replace losers. Harvest losses.

So, my upside is to defer (hopefully until retirement) ~45% tax on half of proceeds, which is 22.5% of proceeds.

My downside is possible under-performance of my "portfolio" vs S&P 500 and time/hassle. But even 5-10% under-performance would be acceptable to me given 22.5% tax deferral.

I have cash/bonds balance roughly equal the expected stock proceeds that I can invest this way. I cannot touch any stocks in my taxable accounts as they have appreciated too much. I can also access margin balance if absolutely necessary. I am not a fan of stock picking but I trust myself to do it out of necessity. May possibly do "random picks".

Please let me know what you think and if there are better options in my situation.

Thank you in advance!

avalpert
Posts: 5889
Joined: Sat Mar 22, 2008 4:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by avalpert » Sat Mar 18, 2017 3:34 pm

Um, no. Your upside here is to be able to offset every $1 in losses with 45 cents in tax reductions - that is, if you intentionally seek out losses your best case is losing 55 cents on every dollar - not a sound strategy. Your downside is the stocks you chase for their loss potential don't lose anything until January 2nd when they drop precipitously but too late to offset your capital gains from this year.

If you happen to have losses in positions that you have then by all means realize them this year - but it makes no sense to intentionally chase losses or volatility beyond what you already believe to be your risk tolerance.

User avatar
TomatoTomahto
Posts: 6576
Joined: Mon Apr 11, 2011 1:48 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by TomatoTomahto » Sat Mar 18, 2017 3:39 pm

Welcome to the forum, patient-investor.

+1 to what avalpert said.

Why not just enjoy your good fortune, without turning it into a search for losses.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 3:42 pm

Where do you get 45%? Even in the highest tax bracket, the tax on capital gains is 20%. What is your tax bracket?

jebmke
Posts: 6655
Joined: Thu Apr 05, 2007 2:44 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by jebmke » Sat Mar 18, 2017 3:52 pm

aristotelian wrote:Where do you get 45%? Even in the highest tax bracket, the tax on capital gains is 20%. What is your tax bracket?

If the gains are short term they would be taxed at ordinary rates.
When you discover that you are riding a dead horse, the best strategy is to dismount.

livesoft
Posts: 56366
Joined: Thu Mar 01, 2007 8:00 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by livesoft » Sat Mar 18, 2017 4:23 pm

aristotelian wrote:Where do you get 45%? Even in the highest tax bracket, the tax on capital gains is 20%. What is your tax bracket?

State income taxes can add to the fun.
This signature message sponsored by sscritic: Learn to fish.

User avatar
Toons
Posts: 11898
Joined: Fri Nov 21, 2008 10:20 am
Location: Hills of Tennessee

Re: facing unexpected capital gains - tax loss harvesting options...

Post by Toons » Sat Mar 18, 2017 4:36 pm

TomatoTomahto wrote:Welcome to the forum, patient-investor.

+1 to what avalpert said.

Why not just enjoy your good fortune, without turning it into a search for losses.


+2
:happy :happy
"One does not accumulate but eliminate. It is not daily increase but daily decrease. The height of cultivation always runs to simplicity" –Bruce Lee

patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Sat Mar 18, 2017 5:00 pm

Thank you for all your thoughts. Let me clarify your questions so far.

1. Without going too deeply into vesting schedules - yes, most of the capital gain is short term and substantial due to "above market" acquisition price. All numbers are approximate but not far from reality.

2. 45% comes from Federal + State + 3.8% IIT

3. By no means I am seeking losses. I am only seeking higher volatility to be able to harvest losses, with same as market (or slightly worse) portfolio performance. To stretch my argument, If I buy all 500 S&P stocks with the right weights and make my own "index", I will end up with close to S&P 500 performance (with some losses on trading inefficiencies). But higher volatility of individual stocks will allow me to harvest losses. Even if I only take a random subset of 30-40 S&P 500 stocks, they may still get me relatively close to S&P 500 performance with even higher volatility.

In terms of trade offs, I believe financially it would make sense to lose extra 5% while "saving" 22.5% in taxes until retirement.

4. I am not advocating for this in general. I am only considering this strategy out of necessity for one year only. If I do nothing I will lose 45 % of that (substantial for me) money.

5. I was holding many individual stocks in the past (w/o excessive trading) and ended up about the same as market. Gradually moved to ETFs over time. But ETFs cannot generate enough volatility for tax loss harvesting in my situation. I can trade free up to 100 times a month.

6. I was also thinking about Betterment or Wealthfront to do tax loss harvesting for me, but, based on indirect experience, they harvest very little relative to your balance.

livesoft
Posts: 56366
Joined: Thu Mar 01, 2007 8:00 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by livesoft » Sat Mar 18, 2017 5:08 pm

patient_investor wrote:6. I was also thinking about Betterment or Wealthfront to do tax loss harvesting for me, but, based on indirect experience, they harvest very little relative to your balance.

I think that it is because there are not that many TLH opportunities relative to a balance that was built by periodic investing ... especially while the stock market is trending up as it has been. I think these firms probably harvest all available losses that they can.
This signature message sponsored by sscritic: Learn to fish.

littlebird
Posts: 1245
Joined: Sat Apr 10, 2010 6:05 pm
Location: Valley of the Sun, AZ

Re: facing unexpected capital gains - tax loss harvesting options...

Post by littlebird » Sat Mar 18, 2017 6:40 pm

If you regularly make charitable contributions, or if you'd like to start doing so, you might consider setting up a donor-advised fund at Fidelity or Schwab and consolidate several (many?) years worth of contributions this year, get the deduction this year, and "grant" out the contributions over the next however many years you wish. :beer

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 7:56 pm

How much of your portfolio are we talking about? How much can you risk on this TLH experiment?

Since you are essentially playing with "house money" that you are losing to taxes, you could liquidate the company stock and simply invest in a portfolio selected to mimic the S&P500 (or some other index of your choice), half of which will go up and half of which will go down. If they go down, you harvest the losses. If they go up, you haven't lost anything, and you have a fairly diversified portfolio of stocks to buy and hold. Seems like a rare situation where you can't lose. I am going to go out on a limb and say this is not a terrible idea. I am not sure about picking intentionally volatile stocks - individual stocks are volatile enough by their very nature - but the idea of buying a bunch of stocks or ETFs could be reconciled with boglehead principles in this case.

avalpert
Posts: 5889
Joined: Sat Mar 22, 2008 4:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by avalpert » Sat Mar 18, 2017 8:14 pm

aristotelian wrote:How much of your portfolio are we talking about? How much can you risk on this TLH experiment?

Since you are essentially playing with "house money" that you are losing to taxes, you could liquidate the company stock and simply invest in a portfolio selected to mimic the S&P500 (or some other index of your choice), half of which will go up and half of which will go down. If they go down, you harvest the losses. If they go up, you haven't lost anything, and you have a fairly diversified portfolio of stocks to buy and hold. Seems like a rare situation where you can't lose. I am going to go out on a limb and say this is not a terrible idea. I am not sure about picking intentionally volatile stocks - individual stocks are volatile enough by their very nature - but the idea of buying a bunch of stocks or ETFs could be reconciled with boglehead principles in this case.

There is no such thing as house money - he is playing with his money. If he doesn't need it then sure he can do whatever he wants - but if that was the case there would be no need for targeted strategies to avoid taxes either.

Also, why would you think half of the stocks he'd pick would go up and half would go down? They could all go up, all go down, all stay flat and anything in between. He is trying to get this benefit for one year only, what happens if this year all the holding go up but still underperform the index and he is stuck holding these individual equities that he doesn't want to spend the time managing, doesn't want the undiversified risk of and doesn't want to realize more gains by selling.

patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Sat Mar 18, 2017 8:28 pm

aristotelian wrote:How much of your portfolio are we talking about? How much can you risk on this TLH experiment?

Since you are essentially playing with "house money" that you are losing to taxes, you could liquidate the company stock and simply invest in a portfolio selected to mimic the S&P500 (or some other index of your choice), half of which will go up and half of which will go down. If they go down, you harvest the losses. If they go up, you haven't lost anything, and you have a fairly diversified portfolio of stocks to buy and hold. Seems like a rare situation where you can't lose. I am going to go out on a limb and say this is not a terrible idea. I am not sure about picking intentionally volatile stocks - individual stocks are volatile enough by their very nature - but the idea of buying a bunch of stocks or ETFs could be reconciled with boglehead principles in this case.


This is precisely my line of thinking. The balance is in 6-digits and worth the hassle. I have already liquidated most of the stock which adds more to my current cash/bond reserves. To minimize the risk further, I can offset this new portfolio by simultaneously selling S&P500 funds from my 401K.

I also realize that this strategy can only work for a while until most of your remaining stocks are holding gains. But I only need this to work until 1/1/2018 8-)

patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Sat Mar 18, 2017 8:36 pm

avalpert wrote:
aristotelian wrote:How much of your portfolio are we talking about? How much can you risk on this TLH experiment?

Since you are essentially playing with "house money" that you are losing to taxes, you could liquidate the company stock and simply invest in a portfolio selected to mimic the S&P500 (or some other index of your choice), half of which will go up and half of which will go down. If they go down, you harvest the losses. If they go up, you haven't lost anything, and you have a fairly diversified portfolio of stocks to buy and hold. Seems like a rare situation where you can't lose. I am going to go out on a limb and say this is not a terrible idea. I am not sure about picking intentionally volatile stocks - individual stocks are volatile enough by their very nature - but the idea of buying a bunch of stocks or ETFs could be reconciled with boglehead principles in this case.

There is no such thing as house money - he is playing with his money. If he doesn't need it then sure he can do whatever he wants - but if that was the case there would be no need for targeted strategies to avoid taxes either.

Also, why would you think half of the stocks he'd pick would go up and half would go down? They could all go up, all go down, all stay flat and anything in between. He is trying to get this benefit for one year only, what happens if this year all the holding go up but still underperform the index and he is stuck holding these individual equities that he doesn't want to spend the time managing, doesn't want the undiversified risk of and doesn't want to realize more gains by selling.


All those arguments make sense, thank you for your perspective. But the penalty for doing nothing is certain and very steep in my case.
Trying to figure out the best action plan.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 8:40 pm

patient_investor wrote:
This is precisely my line of thinking. The balance is in 6-digits and worth the hassle. I have already liquidated most of the stock which adds more to my current cash/bond reserves. To minimize the risk further, I can offset this new portfolio by simultaneously selling S&P500 funds from my 401K.

I also realize that this strategy can only work for a while until most of your remaining stocks are holding gains. But I only need this to work until 1/1/2018 8-)


At that point, they would become long term gains and you would still be coming out ahead.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 8:50 pm

avalpert wrote:There is no such thing as house money - he is playing with his money. If he doesn't need it then sure he can do whatever he wants - but if that was the case there would be no need for targeted strategies to avoid taxes either.

Also, why would you think half of the stocks he'd pick would go up and half would go down? They could all go up, all go down, all stay flat and anything in between. He is trying to get this benefit for one year only, what happens if this year all the holding go up but still underperform the index and he is stuck holding these individual equities that he doesn't want to spend the time managing, doesn't want the undiversified risk of and doesn't want to realize more gains by selling.



I mean house money in the sense that 45% is gone no matter what. If he can use the windfall to create a TLH portfolio, any losses would just offset the 45%, while any market-beating gains would be "bonus". With six figures to play with, he could easily create a portfolio of 100 stocks. He would have to screw up pretty hard to underperform the S&P by more than 5%. Even if he did, the losses would mostly offset gains that he is having to pay 45% on. I would think the odds would be pretty well in his favor to come out ahead just because he is getting screwed so hard with taxes in the status quo scenario.

ved
Posts: 630
Joined: Sat Jan 18, 2014 6:56 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by ved » Sat Mar 18, 2017 8:58 pm

So, let's say you have $100k in gains from the employer stock. And, let's say you are trying to offset $50k of those gains with losses from your proposed approach.

Assuming you will try to mimic the S&P500 (or another index) to create your own basket of stocks, and make about 8% on your basket in this year.

Scenario1:
All (or most) stocks in your basket go up, and now you have gains - so you can't sell...and your strategy failed, and you have to pay 45% tax on your company stock sale.

Scenario 2:
Half (or some %) of your basket had losses, and half (or some%) had gains...your desired result. But the losses should equal at least $50k (assumption of your goal for TLHing). Assuming these losers had an average loss of 10%, you would need to have invested $500k to generate the $50k in losses. Which means, you would have to invest at least a million in the basket (as only half would be losses).

Scenario 3:
All (or most) stocks in your basket go down, and now you have significant losses - so you can sell...and your strategy succeeded, and you can TLH. But, this scenario is only good if S&P 500 (or another index you were replicating) also went down. Which means, you could have not gone thru this exercise, and rather bought the index itself.

So, the actual result would fall somewhere between Scenarios 1 thru 3.
Do you have at least a million in the bond/cash portion of your portfolio? Are you ok with your bond/cash % reduced in your asset allocation? What if the year the market really crashed, and the million $ became $500k,and the rest of your portfolio reduced by half too. Would you be ok with your reduced portfolio size (and most of it in stocks)?

Globalviewer58
Posts: 411
Joined: Fri Jul 18, 2008 3:26 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by Globalviewer58 » Sat Mar 18, 2017 9:01 pm

Are your shares eligible for Qualified Small Business Stock exclusion of capital gains? Google the term and review the criteria. In some cases up to 75% of the capital gain is excluded from federal tax.

patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Sat Mar 18, 2017 9:25 pm

ved wrote:So, let's say you have $100k in gains from the employer stock. And, let's say you are trying to offset $50k of those gains with losses from your proposed approach.

Assuming you will try to mimic the S&P500 (or another index) to create your own basket of stocks, and make about 8% on your basket in this year.

Scenario1:
All (or most) stocks in your basket go up, and now you have gains - so you can't sell...and your strategy failed, and you have to pay 45% tax on your company stock sale.

Scenario 2:
Half (or some %) of your basket had losses, and half (or some%) had gains...your desired result. But the losses should equal at least $50k (assumption of your goal for TLHing). Assuming these losers had an average loss of 10%, you would need to have invested $500k to generate the $50k in losses. Which means, you would have to invest at least a million in the basket (as only half would be losses).

Scenario 3:
All (or most) stocks in your basket go down, and now you have significant losses - so you can sell...and your strategy succeeded, and you can TLH. But, this scenario is only good if S&P 500 (or another index you were replicating) also went down. Which means, you could have not gone thru this exercise, and rather bought the index itself.

So, the actual result would fall somewhere between Scenarios 1 thru 3.
Do you have at least a million in the bond/cash portion of your portfolio? Are you ok with your bond/cash % reduced in your asset allocation? What if the year the market really crashed, and the million $ became $500k,and the rest of your portfolio reduced by half too. Would you be ok with your reduced portfolio size (and most of it in stocks)?



As I said, I can offset this new manual portfolio by selling S&P500 fund from 401K, essentially keeping my overall asset allocation intact.

I cannot get to 10x leverage, like in your "1 Million" example, but 2x-3x is achievable. I can use cash/bonds in taxable accounts and borrow short term on margin against the last portion of shares that will be vesting soon at closing. That last portion will be an ordinary income anyway unfortunately. I normally don't use margin except for making sure my checks don't bounce, but this is going to be a very short term loan and my margin rates have been negotiated down.

It is possible that 3x leverage is not enough to generate target volatility. In this case, I would either have to pick high beta stocks only or just accept the partial victory.

avalpert
Posts: 5889
Joined: Sat Mar 22, 2008 4:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by avalpert » Sat Mar 18, 2017 9:30 pm

patient_investor wrote:
avalpert wrote:
aristotelian wrote:How much of your portfolio are we talking about? How much can you risk on this TLH experiment?

Since you are essentially playing with "house money" that you are losing to taxes, you could liquidate the company stock and simply invest in a portfolio selected to mimic the S&P500 (or some other index of your choice), half of which will go up and half of which will go down. If they go down, you harvest the losses. If they go up, you haven't lost anything, and you have a fairly diversified portfolio of stocks to buy and hold. Seems like a rare situation where you can't lose. I am going to go out on a limb and say this is not a terrible idea. I am not sure about picking intentionally volatile stocks - individual stocks are volatile enough by their very nature - but the idea of buying a bunch of stocks or ETFs could be reconciled with boglehead principles in this case.

There is no such thing as house money - he is playing with his money. If he doesn't need it then sure he can do whatever he wants - but if that was the case there would be no need for targeted strategies to avoid taxes either.

Also, why would you think half of the stocks he'd pick would go up and half would go down? They could all go up, all go down, all stay flat and anything in between. He is trying to get this benefit for one year only, what happens if this year all the holding go up but still underperform the index and he is stuck holding these individual equities that he doesn't want to spend the time managing, doesn't want the undiversified risk of and doesn't want to realize more gains by selling.


All those arguments make sense, thank you for your perspective. But the penalty for doing nothing is certain and very steep in my case.
Trying to figure out the best action plan.

Options you might explore - can you defer the payout or spread it out? Is the company publicly traded - if so there may be option strategies you can use to mitigate the realized gain in the short term. You can donate some of the shares (direct to charity or to a donor advised fund) BEFORE they get exchanged for cash - you get to deduct the donation and don't have to realize the gain (this assumes the current value is close to the cash-out value which it should be). You can gift the shares before the cash-out to children/siblings who have lower marginal rates as long as you keep it under annual and lifetime gift tax limits.

I'm sure there are other strategies that I'm not thinking of at the moment - they all will have a cost and in many of them it will be ways of forgoing receiving the money so you should really only do it if you would be giving the money to those causes/people anyway.

avalpert
Posts: 5889
Joined: Sat Mar 22, 2008 4:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by avalpert » Sat Mar 18, 2017 9:36 pm

aristotelian wrote:
avalpert wrote:There is no such thing as house money - he is playing with his money. If he doesn't need it then sure he can do whatever he wants - but if that was the case there would be no need for targeted strategies to avoid taxes either.

Also, why would you think half of the stocks he'd pick would go up and half would go down? They could all go up, all go down, all stay flat and anything in between. He is trying to get this benefit for one year only, what happens if this year all the holding go up but still underperform the index and he is stuck holding these individual equities that he doesn't want to spend the time managing, doesn't want the undiversified risk of and doesn't want to realize more gains by selling.



I mean house money in the sense that 45% is gone no matter what. If he can use the windfall to create a TLH portfolio, any losses would just offset the 45%, while any market-beating gains would be "bonus". With six figures to play with, he could easily create a portfolio of 100 stocks. He would have to screw up pretty hard to underperform the S&P by more than 5%. Even if he did, the losses would mostly offset gains that he is having to pay 45% on. I would think the odds would be pretty well in his favor to come out ahead just because he is getting screwed so hard with taxes in the status quo scenario.

The losses don't offset the 45% - they offset 100% of which 45% is 'saved' by reduced taxes and 55% are lost forever. There is no way around it, for every dollar in realized losses he will have lost 55 cents he will never see again. And, unlike when tax-loss harvesting between index funds that cover the same asset class, with individual equities you don't have trading partners that are mostly identical (notice how I didn't say 'substantially identical' - that is for the IRS spies among us).

And that is the best case scenario here. As I said, there is still no guarantee that he will even have losses to realize within this year and there is no guarantee in that scenario that he outperforms the index or even comes close to it.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 9:38 pm

ved wrote:So, let's say you have $100k in gains from the employer stock. And, let's say you are trying to offset $50k of those gains with losses from your proposed approach.

Assuming you will try to mimic the S&P500 (or another index) to create your own basket of stocks, and make about 8% on your basket in this year.

Scenario1:
All (or most) stocks in your basket go up, and now you have gains - so you can't sell...and your strategy failed, and you have to pay 45% tax on your company stock sale.

Scenario 2:
Half (or some %) of your basket had losses, and half (or some%) had gains...your desired result. But the losses should equal at least $50k (assumption of your goal for TLHing). Assuming these losers had an average loss of 10%, you would need to have invested $500k to generate the $50k in losses. Which means, you would have to invest at least a million in the basket (as only half would be losses).

Scenario 3:
All (or most) stocks in your basket go down, and now you have significant losses - so you can sell...and your strategy succeeded, and you can TLH. But, this scenario is only good if S&P 500 (or another index you were replicating) also went down. Which means, you could have not gone thru this exercise, and rather bought the index itself.

So, the actual result would fall somewhere between Scenarios 1 thru 3.
Do you have at least a million in the bond/cash portion of your portfolio? Are you ok with your bond/cash % reduced in your asset allocation? What if the year the market really crashed, and the million $ became $500k,and the rest of your portfolio reduced by half too. Would you be ok with your reduced portfolio size (and most of it in stocks)?


In scenario 1, he is no worse off than investing in the S&P with the S&P going up. But I find it hard to imagine that if he picked 100 stocks that not one would post a loss.

In scenario 2, which I would think is the most likely, I don't see why it is all or nothing. It would be great if he could come with with $50K losses, but I don't see why he has to try this with $1M. If he does it with $500k and only comes up with $25k of losses to harvest, that is still a significant savings.

In scenario 3, again he is no worse off, assuming the alternative is to invest in the S&P and it goes down too.

Even in an up year for the S&P comparable to scenario 1, just eyeballing the list it looks like about 1 in 6 stocks posted losses. In a flat year it is going to be a lot more than that. They do not even have to post losses for the year, they just need to be negative at some point during the year. https://markets.ft.com/data/indices/tea ... ?s=INX:IOM

avalpert
Posts: 5889
Joined: Sat Mar 22, 2008 4:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by avalpert » Sat Mar 18, 2017 9:38 pm

patient_investor wrote: I normally don't use margin except for making sure my checks don't bounce, but this is going to be a very short term loan and my margin rates have been negotiated down.

How do you know it will be short term? What happens if the portfolio of stocks have mostly gains between now and 12/31 - are you going to sell to pay back the margin and have an even higher tax bill?

User avatar
TomatoTomahto
Posts: 6576
Joined: Mon Apr 11, 2011 1:48 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by TomatoTomahto » Sat Mar 18, 2017 9:47 pm

So now, rather than pay the taxes on some short term capital gains, you're talking about levering up 2x to 3x. What could possibly go wrong? Picking up nickels in front of a steam roller.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 9:47 pm

avalpert wrote:The losses don't offset the 45% - they offset 100% of which 45% is 'saved' by reduced taxes and 55% are lost forever. There is no way around it, for every dollar in realized losses he will have lost 55 cents he will never see again. And, unlike when tax-loss harvesting between index funds that cover the same asset class, with individual equities you don't have trading partners that are mostly identical (notice how I didn't say 'substantially identical' - that is for the IRS spies among us).

And that is the best case scenario here. As I said, there is still no guarantee that he will even have losses to realize within this year and there is no guarantee in that scenario that he outperforms the index or even comes close to it.


He does not need to outperform the index. He can buy the index - at least the Dow, if not the S&P - and harvest any losses this year.

He does not need to replace like with like. Just wait 30 days and rebuy the same stock. Or harvest the loss and invest the remaining principal in Total Stock.

avalpert
Posts: 5889
Joined: Sat Mar 22, 2008 4:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by avalpert » Sat Mar 18, 2017 9:56 pm

aristotelian wrote:
avalpert wrote:The losses don't offset the 45% - they offset 100% of which 45% is 'saved' by reduced taxes and 55% are lost forever. There is no way around it, for every dollar in realized losses he will have lost 55 cents he will never see again. And, unlike when tax-loss harvesting between index funds that cover the same asset class, with individual equities you don't have trading partners that are mostly identical (notice how I didn't say 'substantially identical' - that is for the IRS spies among us).

And that is the best case scenario here. As I said, there is still no guarantee that he will even have losses to realize within this year and there is no guarantee in that scenario that he outperforms the index or even comes close to it.


He does not need to outperform the index. He can buy the index - at least the Dow, if not the S&P - and harvest any losses this year.

He does not need to replace like with like. Just wait 30 days and rebuy the same stock. Or harvest the loss and invest the remaining principal in Total Stock.

And therein lies the problem - what happens when 30 days later the stock erased all those losses? You bought 10 share at 100, sold at 50 and bought 5 at 100 30 days later. Yay, you realized 500 dollars in losses and now will have to pay 225 less in taxes - and will never see another 275 again. How is that a good thing?

patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Sat Mar 18, 2017 9:59 pm

avalpert wrote:
patient_investor wrote: I normally don't use margin except for making sure my checks don't bounce, but this is going to be a very short term loan and my margin rates have been negotiated down.

How do you know it will be short term? What happens if the portfolio of stocks have mostly gains between now and 12/31 - are you going to sell to pay back the margin and have an even higher tax bill?


The loan is short term because it's going to be repaid with the last tranche of stocks that are vesting soon (at deal close). Those will be treated as ordinary income anyway.

patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Sat Mar 18, 2017 10:02 pm

TomatoTomahto wrote:So now, rather than pay the taxes on some short term capital gains, you're talking about levering up 2x to 3x. What could possibly go wrong? Picking up nickels in front of a steam roller.


As I said above, the best I can do is to sell S&P index from 401k/IRA to offset this S&P-like manufactured portfolio and keep the overall allocation intact.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 10:05 pm

avalpert wrote:And therein lies the problem - what happens when 30 days later the stock erased all those losses? You bought 10 share at 100, sold at 50 and bought 5 at 100 30 days later. Yay, you realized 500 dollars in losses and now will have to pay 225 less in taxes - and will never see another 275 again. How is that a good thing?


You could have a policy to take cash from harvested losses and buy Total Stock.

For every stock that posts a $500 loss, there is another that beats the index. It's not a good thing that he picked a loser, but if the bucket is diverse enough there should be some winner in there. If the whole index goes down, you cash out as soon as you have harvested enough losses, with no harm done.

Look at it this way: one could make a DIY version of the Dow (or with enough money, S&P). This wouldn't be a bad idea in itself. On top of that, he stands a good chance of harvesting losses to offset gains he would otherwise pay 45% on.

avalpert
Posts: 5889
Joined: Sat Mar 22, 2008 4:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by avalpert » Sat Mar 18, 2017 10:16 pm

aristotelian wrote:For every stock that posts a $500 loss, there is another that beats the index.

Where is that rule written? Gains/losses are absolute, performance to the index is relative.

And all this still skirts over the primary problem with the plan - to avoid paying taxes you are throwing away good money. You are not maintaining your asset allocation and accepting the outcome - you are intentionally increasing volatility in a way that you don't expect the market to reward.

NancyABQ
Posts: 148
Joined: Thu Aug 18, 2016 3:37 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by NancyABQ » Sat Mar 18, 2017 10:24 pm

If you really want to try this, it might be a lot less hassle to look at Wealthfront's "Direct Indexing". if you have $100K+ they will invest in 100 stocks and TLH them individually. If you have $500K+, then they will invest in 500 stocks. In either case the stocks are selected to approximate the S&P 500. I think they will invest some of the money in other low cost ETF's to give you the desired asset allocation -- not sure if that would be an issue or if you can get them to just do the Direct Indexing portion.

The fee is 0.25% -- it might be worth it to avoid all the micromanagement necessary to do it yourself?

I briefly had a Wealthfront account to experiment with the TLH feature. I found they did TLH quite aggressively. Mine was just in ETFs, not the Direct Indexing feature because I just had ~$12K with them. I got rid of the account because I decided it didn't fit with my long term needs, but it does do what they say.

(I think some of the other robo-investors may also do direct indexing? It's worth a google or two...)

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sat Mar 18, 2017 10:27 pm

avalpert wrote:
aristotelian wrote:For every stock that posts a $500 loss, there is another that beats the index.

Where is that rule written? Gains/losses are absolute, performance to the index is relative.

And all this still skirts over the primary problem with the plan - to avoid paying taxes you are throwing away good money. You are not maintaining your asset allocation and accepting the outcome - you are intentionally increasing volatility in a way that you don't expect the market to reward.


His previous asset allocation was six figures invested in one stock. Moving the proceeds into a bucket of stocks mimicking the DOW (which is what I would advocate, not necessarily what he is advocating) is reducing his volatility versus what he had before, and only barely more volatile than S&P.

ved
Posts: 630
Joined: Sat Jan 18, 2014 6:56 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by ved » Sun Mar 19, 2017 10:05 am

If all you want to do is realize losses in the short term (within the next 9 months), why don't you buy some penny stocks? Chances are you will lose most of the investment. If not, and you gain, then you can use the gains to pay the tax bill on the liquidated company shares.

Win-win either way (for what you are trying to do - I don't consider intentionally losing money to delay my taxes a win).
And you don't have to slice and dice a number of stocks and monitor / manage them.

supernova
Posts: 269
Joined: Fri Feb 21, 2014 8:45 am

Re: facing unexpected capital gains - tax loss harvesting options...

Post by supernova » Sun Mar 19, 2017 10:22 am

Seems silly to want to lose in an investment to just avoid taxes. You are getting the amount in cash, just set 45% of that aside to pay the tax and enjoy the other 55% of it.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Sun Mar 19, 2017 10:32 am

supernova wrote:Seems silly to want to lose in an investment to just avoid taxes. You are getting the amount in cash, just set 45% of that aside to pay the tax and enjoy the other 55% of it.


He is not trying to intentionally lose. He is trying to set up a portfolio that has some winners and some losers, just like an index fund. The difference is that he is doing all the work, and in return he gets to tax harvest the losses. My only issue with OP is the idea of picking random or intentionally volatile stocks. Better off doing this with the DOW or top 100 of the S&P, stocks that he would actually not mind holding for a year.

goingup
Posts: 2701
Joined: Tue Jan 26, 2010 1:02 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by goingup » Sun Mar 19, 2017 10:44 am

I don't think 6-figure bonuses for high-tax bracket posters on this forum are unicorn rare. :wink: Why not invest according to your AA, keeping tax-efficient equity index funds in your taxable account. When tax-loss harvesting opportunities present themselves, seize them. You have all year and undoubtedly you'll have some opportunities.

I'm pretty sanguine about trying to out-flank taxes. If there were sure-fire schemes on how to do so we'd all be trying them. Hopefully livesoft will offer up the remedy!

User avatar
TomatoTomahto
Posts: 6576
Joined: Mon Apr 11, 2011 1:48 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by TomatoTomahto » Sun Mar 19, 2017 11:07 am

goingup wrote:I don't think 6-figure bonuses for high-tax bracket posters on this forum are unicorn rare. :wink:

That's true, but what is different is that this apparently will be an involuntary capital gain event. Many of us get 6 and 7 digit income events around bonuses, but capital gains timing is under our control.

Huskiez
Posts: 4
Joined: Sat Aug 22, 2015 11:58 am

Re: facing unexpected capital gains - tax loss harvesting options...

Post by Huskiez » Sun Mar 19, 2017 12:22 pm

Surprised with the responses of "just be happy with the gains." I would hate to take a sizeable 45% tax hit if there was some way to decrease it. The direct investing makes sense to me, but I don't know the best way of doing it would be.

Essentially what OP is trying to do is exchange his 45% forced tax rate back into a LTCG tax. For easy math purposes, suppose a $1 million portfolio that now has $450K going to tax. We would want to put the $1M into individual stocks that represent the S&P 500 (or VTI/TSM).

Suppose the S&P 500 index for the year did not change at all (0% return), but that half the index did extremely well and half the index did extremely poor. So e.g. 500K doubled and became $1M and 500K did poorly and became worthless.

So without direct investing, OP has 1M - 450K = 550K.
With individual stocks representing the S&P 500, OP can offset the 450K gains with 450K losses and has 50K leftover. However, he has 500K LTCG. But his tax rate on that will be significantly less. Supposing a 10% less tax rate (could be more or less, unclear), that would be 50K. Relative to initial portfolio, this would be 5% of the overall amount. But I think this is sizeable, especially given all the consideration to expense ratios, etc.

Obviously this is just one scenario (and the ideal one OP is talking about). But surprised we aren't discussing it a little more..

Scotttheking
Posts: 175
Joined: Wed Apr 09, 2008 7:58 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by Scotttheking » Sun Mar 19, 2017 2:10 pm

Donate the lowest cost basis shares to a donor advised fund.

User avatar
TomatoTomahto
Posts: 6576
Joined: Mon Apr 11, 2011 1:48 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by TomatoTomahto » Sun Mar 19, 2017 2:24 pm

Huskiez wrote:Obviously this is just one scenario (and the ideal one OP is talking about). But surprised we aren't discussing it a little more..
To get losses in 9 months in a portfolio that is neutral in aggregate, sufficient to offset the forced gains will require risks, considerable risks. Penny stocks, 2x - 3x leverage, etc., are not risk free. Dow components are fine, but getting those kinds of losses would require leverage (or a huge position).

I'm not suggesting "just be happy with the gains" for lack of a desire to do something better, but what? What I've heard sounds too risky, but then again, I'm older and less risk tolerant.

goingup
Posts: 2701
Joined: Tue Jan 26, 2010 1:02 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by goingup » Sun Mar 19, 2017 5:05 pm

TomatoTomahto wrote:
goingup wrote:I don't think 6-figure bonuses for high-tax bracket posters on this forum are unicorn rare. :wink:

That's true, but what is different is that this apparently will be an involuntary capital gain event. Many of us get 6 and 7 digit income events around bonuses, but capital gains timing is under our control.

You're correct. But I'm thinking of the case of exercising stock options and selling the stock immediately.

inbox788
Posts: 4099
Joined: Thu Mar 15, 2012 5:24 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by inbox788 » Mon Mar 20, 2017 1:23 pm

patient_investor wrote:3. By no means I am seeking losses. I am only seeking higher volatility to be able to harvest losses, with same as market (or slightly worse) portfolio performance. To stretch my argument, If I buy all 500 S&P stocks with the right weights and make my own "index", I will end up with close to S&P 500 performance (with some losses on trading inefficiencies). But higher volatility of individual stocks will allow me to harvest losses. Even if I only take a random subset of 30-40 S&P 500 stocks, they may still get me relatively close to S&P 500 performance with even higher volatility.

In terms of trade offs, I believe financially it would make sense to lose extra 5% while "saving" 22.5% in taxes until retirement.
...
5. I was holding many individual stocks in the past (w/o excessive trading) and ended up about the same as market. Gradually moved to ETFs over time. But ETFs cannot generate enough volatility for tax loss harvesting in my situation. I can trade free up to 100 times a month.

6. I was also thinking about Betterment or Wealthfront to do tax loss harvesting for me, but, based on indirect experience, they harvest very little relative to your balance.


I think there is something to what you're trying to achieve. Basically, you're trying to gamble with house money, and there is a chance it works, but there is also risk involved. One area you might seek out are binary results, like lawsuits. Company A sues company B, so you buy both companies. After the lawsuit, one goes up, while the other goes down. Mergers and acquisitions might also be an area of volatility if you can figure it out. The biggest risk is holding the winners to the 12 month point of getting the long term capital gains, while having sold off the losers 3-6 months ago. Other risks are choosing only losers or more losers. Having more winners isn't on it's face bad, but what if you had no losers and next Feb, the market dropped 20%? Finally, the lack of volatility might work against you to generate enough winners and losers to meet your need without increasing risk exposure.

You can also look into buying leveraged funds to achieve similar aims. Things like FAS/FAZ, UGAZ/DGAZ, YINN/YANG, SPXL/SPXS. But they're very inefficient and don't always track well, especially if you plan longer term holding.

As far as Betterment/Wealthfront, do they have a strategy to maximize TLH, or is it mainly an incidental strategy to their low volatility investment strategy? Just 2% improvement doesn't seem worth doing.

patient_investor
Posts: 10
Joined: Sat Mar 18, 2017 12:15 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by patient_investor » Mon Mar 20, 2017 9:00 pm

Everyone, thank you for your replies !

Again, I wanted to clarify - this post is more about tax deferral rather than stock picking.
I think tax deferral is very consistent with the forum's "max out 401K" philosophy.
Stock picking here is a one-year event out of necessity to enable tax deferral.

Given 45% tax in a "do nothing" scenario and 0%-15% deferred tax in retirement if I harvest losses, beating a "do nothing" scenario is not that hard.

Imagine two funds - one with 45% annual fee, and another one with 15% annual fee but you have to manage it via individual stocks and harvest losses. Which one would perform better? My bet is on 15% fee fund. I cannot imagine that my under-performance as a "fund manager" would be worse than 30% fee difference. After all, I can make index via individual stocks, match index performance and still harvest some losses on the top of it.

So, I have little doubt that I can do better than "do nothing" via direct indexing.
My biggest problem is maximizing individual stocks' volatility without sacrificing the overall performance by more than ~10%-15%. But this risk is probably symmetrical. I may as well end up beating index by ~10%-15% via increased volatility, nobody knows...

Anyway, I've seen some great responses here and I am going to explore them.
- The biggest challenge with direct indexing (like Dow Jones) is not enough volatility to harvest all available losses.
- The biggest challenge with volatile pairs (like lawsuit pairs or FAS/FAZ) is that it would be hard to hold "winners" until retirement.
But I think it's possible to come up with a blended approach, combining the two above.

I am still not clear if Betterment/Wealthfront can be fine-tuned to maximize volatility to the point it pays off. Please share your experience.

Please let me know if you have any other suggestions.

NancyABQ
Posts: 148
Joined: Thu Aug 18, 2016 3:37 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by NancyABQ » Mon Mar 20, 2017 10:10 pm

patient_investor wrote:I am still not clear if Betterment/Wealthfront can be fine-tuned to maximize volatility to the point it pays off. Please share your experience.



I don't have any direct experience with the Direct Indexing for TLH at Wealthfront, but I did read about it enough that I am pretty sure I understand their algorithm.

They choose and purchase 100 (or 500) individual stocks to mimic the S&P 500 index. As far as I know they don't specifically choose stocks to "maximize volatility". They choose stocks to approximate the index.

They automatically look constantly for TLH opportunities in those stocks. I believe they do this continuously or at least at multiple times during the day (computers...yay!).

When they sell a position for TLH, they immediately repurchase a different stock that is "similar" (i.e. same sector, same 'size', etc?) to maintain following the S&P Index as closely as possible. So they don't leave significant funds in cash.

I believe they want to TLH across a whole portfolio, so they would hold ETFs for international, bond, etc portions of whatever portfolio you set. They will also TLH those positions. In your case you would want as aggressive (equity-heavy) a portfolio as possible, but I am not aware of a way to force it to only include the S&P 500 index portion.

The approach is not exactly what you want to do, but it is a possible way to get close with a lot less effort on your part, which is why you might consider it.

aristotelian
Posts: 2782
Joined: Wed Jan 11, 2017 8:05 pm

Re: facing unexpected capital gains - tax loss harvesting options...

Post by aristotelian » Mon Mar 20, 2017 10:40 pm

How about this. Take the top 5 or so stocks of each of Powershares small cap sector ETFs. Nine sectors, 90 stocks. When you sell one, replace with the next one on the holdings list for that sector. More volatile than the Dow, but clearer trading policy than random penny stocks. http://etfdb.com/2010/powershares-launc ... ctor-etfs/ Not that I am advocating this, but it would accomplish what you are trying to do.

Post Reply