Tax Loss Harvest & Roth Conversion

Non-investing personal finance issues including insurance, credit, real estate, taxes, employment and legal issues such as trusts and wills
Post Reply
Topic Author
bogledogle87
Posts: 109
Joined: Wed Sep 26, 2018 7:03 pm

Tax Loss Harvest & Roth Conversion

Post by bogledogle87 » Tue Jun 11, 2019 11:25 am

I am 31, in the 12% bracket, and have been Tax Gain Harvesting for the last several years. Like many others, I expect Tax Loss Harvesting opportunities at some point. Gain Harvesting is pretty straightforward, but I am trying to wrap my mind around the proper use of Tax Loss Harvesting in this bracket and whether or not pairing with a Roth Conversion makes any sense.

My goal in the 12% bracket is to capture as many gains as possible at 0%, so I understand that it would pointless to Tax Gain & Loss Harvest in the same year since they would offset each other. I also recognize Loss Harvesting may be beneficial if I can regain them later at 0%. I understand that MFJ are limited to $3000 per year carryover from losses.

Let's say I had $15,000 capital loss in one year and could carry it forward for the next 5 tax years. Perhaps some of those years 2-5 would have Tax Gain opportunities and some would not. This is the part that starts to confuse me a bit. I assume that harvesting $3000 of Gains in one of those subsequent loss carryover years may be pointless (I think??), but doing so with $5000 of gains would net $2000 of 0% gains, which would be a net benefit. This seems pretty clear the gain harvesting would be better off in the one year vs splitting into two.

My next idea was to establish a principle of performing a Roth Conversion at least equal to the loss carryover in a given year. The idea would be to utilize the losses to provide room for the Roth conversion, instead of offsetting 0% gains that I want to harvest. Then I would still be able to use any available room in the bracket to harvest 0% gains in a way that is actually a net benefit from the original loss harvest.

1) I am looking for a sanity check to see if this even makes sense
2) Is there a particular order that loss carryovers must offset from the IRS perspective between ordinary income & capitol gains?
3) Any other comments, feedback, better ideas are welcome
VTWAX and chill

mhalley
Posts: 6991
Joined: Tue Nov 20, 2007 6:02 am

Re: Tax Loss Harvest & Roth Conversion

Post by mhalley » Tue Jun 11, 2019 2:39 pm

The 3k limit applies to using the losses to offset ordinary income. The losses against cap gains is infinite. I think the losses must be applied to any gains first, then when you run out of gains you can use the 3k towards income.

https://www.thebalance.com/can-a-capita ... ar-2388983
. Let's assume the stock market has a bad year. You sell a stock or mutual fund and realize a $20,000 loss. You have no capital gains that year. First, you use $3,000 of the loss to offset ordinary income. The remaining $17,000 will carry over to the next year. Next year, if you have $5,000 of capital gain, you can use $5,000 of your remaining loss carryover to offset this gain, $3,000 to deduct against ordinary income, and the remaining $9,000 will then carry forward to the next tax year. If you had no realized capital gains for the following 3 years, the remaining $9,000 tax loss would be used up, $3,000 at a time, over those 3 years.

retiredjg
Posts: 36286
Joined: Thu Jan 10, 2008 12:56 pm

Re: Tax Loss Harvest & Roth Conversion

Post by retiredjg » Tue Jun 11, 2019 5:59 pm

I'm not sure I followed your question, but I think I recall that your banked losses will be used to offset gains even if those gains would be taxed at 0%. . In other words, your losses can be wasted.

I'm thinking, if that is correct, it would upset your plan. But since I didn't understand your plan, it might not. :happy

I'm not sure how Roth conversions would change anything other than increasing your income.

gclancer
Posts: 624
Joined: Sat Apr 27, 2013 10:34 am

Re: Tax Loss Harvest & Roth Conversion

Post by gclancer » Tue Jun 11, 2019 6:14 pm

retiredjg wrote:
Tue Jun 11, 2019 5:59 pm
I'm not sure how Roth conversions would change anything other than increasing your income.
+1 the Roth conversion will be taxed at 12% since it’s ordinary income. If you have already tax gain harvested in 2019, then tax losses will be applied against your gains first. If not, you could take losses up to $3k and offset ordinary income. If you want to say you converted $3k to Roth at 0% you could do those mental gymnastics except if you did no conversation you’d save $360 in federal tax (thus, the conversation cost you $360 i.e. 12%).

User avatar
Flobes
Posts: 1069
Joined: Tue Feb 16, 2010 12:40 am

Re: Tax Loss Harvest & Roth Conversion

Post by Flobes » Tue Jun 11, 2019 7:22 pm

I too am not sure I understand what you're asking or proposing.

But I think you're thinking that the carry-forward capital loss:
• is limited to $3000 a year
• can be applied whenever you want
• to whatever income you choose.

None of those are true.

If you have a $15,000 carry-forward loss, and you have $5000 in gains, then $5000 of your loss will be applied.

In a year you have no capital gains, then $3000 will be applied to your income, no more, no matter whether that income is work, interest, Roth conversions or jury duty.

You do not have a choice whether or not to use or delay the $3000. If you have a carry-forward loss, and you have income, it will be applied, irrespective of whether that matches your goals.

You might find this thread helpful:
Is TLH in 12% bracket less worthwhile?

Topic Author
bogledogle87
Posts: 109
Joined: Wed Sep 26, 2018 7:03 pm

Re: Tax Loss Harvest & Roth Conversion

Post by bogledogle87 » Wed Jun 12, 2019 6:37 am

mhalley wrote:
Tue Jun 11, 2019 2:39 pm
The 3k limit applies to using the losses to offset ordinary income. The losses against cap gains is infinite. I think the losses must be applied to any gains first, then when you run out of gains you can use the 3k towards income.

Thank you! This was a key detail I did not understand before. This distinction clears a lot up for me and shows me why my question was perceived as confusing. Appreciate the Response
VTWAX and chill

Topic Author
bogledogle87
Posts: 109
Joined: Wed Sep 26, 2018 7:03 pm

Re: Tax Loss Harvest & Roth Conversion

Post by bogledogle87 » Wed Jun 12, 2019 6:40 am

Flobes wrote:
Tue Jun 11, 2019 7:22 pm
I too am not sure I understand what you're asking or proposing.

But I think you're thinking that the carry-forward capital loss:
• is limited to $3000 a year
• can be applied whenever you want
• to whatever income you choose.

None of those are true.

If you have a $15,000 carry-forward loss, and you have $5000 in gains, then $5000 of your loss will be applied.

In a year you have no capital gains, then $3000 will be applied to your income, no more, no matter whether that income is work, interest, Roth conversions or jury duty.

You do not have a choice whether or not to use or delay the $3000. If you have a carry-forward loss, and you have income, it will be applied, irrespective of whether that matches your goals.

You might find this thread helpful:
Is TLH in 12% bracket less worthwhile?
Thank you for clearing up these points. You nailed my erroneous assumptions on the head - this was not something I was understanding properly. I clearly need to do some more research and have a better understanding TLH in the 12% bracket. Thanks for the link!
VTWAX and chill

Topic Author
bogledogle87
Posts: 109
Joined: Wed Sep 26, 2018 7:03 pm

Re: Tax Loss Harvest & Roth Conversion

Post by bogledogle87 » Wed Jun 12, 2019 6:44 am

retiredjg wrote:
Tue Jun 11, 2019 5:59 pm
I'm not sure I followed your question, but I think I recall that your banked losses will be used to offset gains even if those gains would be taxed at 0%. . In other words, your losses can be wasted.

I'm thinking, if that is correct, it would upset your plan. But since I didn't understand your plan, it might not. :happy

I'm not sure how Roth conversions would change anything other than increasing your income.
As another user pointed out, my flawed logical path was based on an erroneous assumption that carry-forward losses were fixed at $3000 regardless of other activity and that I could strategically pair it up with other activities in a beneficial way. I did not understand that the $3k loss was limited to ordinary income only and that any amount greater than $3k could be used to offset gains greater then $3k as well.

I clearly need to do a lot more research to understand if TLH in the 12% bracket is appropriate for my goals. Thanks for the response!
VTWAX and chill

retiredjg
Posts: 36286
Joined: Thu Jan 10, 2008 12:56 pm

Re: Tax Loss Harvest & Roth Conversion

Post by retiredjg » Wed Jun 12, 2019 10:32 am

If you believe you will continue to be in the 12% bracket, it may be that tax loss harvesting will not be as helpful to you as to some others.

This is because the top of your bracket is roughly the top of the 0% long term cap gains bracket. I believe your banked losses will be used against LTCG and qualified dividends that are not going to be taxed anyway. So some of your losses may be wasted.

I'm not sure that small time tax loss harvesting (during ordinary ups and downs of the market) is going to do you much good.

But if/when you get the opportunity to bank some good losses (during an extended bear market), you will be able to use those banked losses against $3k of ordinary income each year for a few years. That would be a nice touch.

Post Reply