Let’s face it—no one likes seeing red in their investment portfolio. A market downturn can feel like a punch in the gut, especially when you’ve worked hard to build your investments. But what if I told you there’s a silver lining hidden in that sea of red? Say hello to tax-loss harvesting—a clever strategy that can help you soften the blow by reducing your tax bill.
In this article, we’ll break down what tax-loss harvesting is, how it works, who it benefits, and how to use it effectively without triggering IRS red flags. Whether you’re a beginner or a seasoned investor, this casual yet comprehensive guide will help you make the most of a bad market situation.
In This Article
What Is Tax-Loss Harvesting (TLH)?
Tax-loss harvesting is a strategy where you sell investments that have lost value to offset gains you’ve made elsewhere—or even reduce your taxable income.
Let’s say you made $10,000 by selling a stock that performed well this year. At the same time, you’re sitting on a $7,000 loss in another investment. Instead of crying over the loss, you sell the underperforming asset and use that $7,000 loss to reduce your taxable gains. Now, instead of paying taxes on $10,000, you’re only taxed on $3,000.
Pretty neat, right?
Why Tax-Loss Harvesting Matters
Market downturns are tough, but they’re also a ripe opportunity for smart investors. Here’s why tax-loss harvesting is worth paying attention to:
- Lowers your tax bill in the current year.
- Carries forward unused losses to offset future gains or income.
- Encourages you to reevaluate your portfolio and get rid of underperforming assets.
- It’s legal and IRS-approved when done correctly.
A Real-Life Example (with Easy Numbers)
Let’s say Sarah invested in two stocks:
- Stock A gained $5,000
- Stock B lost $3,000
If she sells both, her net capital gain is just $2,000. That’s what she’ll be taxed on. But if she only sold Stock A, she’d be taxed on the full $5,000 gain. By harvesting that loss from Stock B, she saves on her taxes now.
Short-Term vs. Long-Term Capital Gains: Why It Matters
Capital gains are taxed at different rates depending on how long you held the investment:
- Short-term gains (less than a year): taxed as regular income.
- Long-term gains (more than a year): taxed at reduced rates (0%, 15%, or 20%, depending on your income).
Tax-loss harvesting matches losses to gains in the same category first (short-term to short-term, long-term to long-term). If there are extra losses left over, they can spill over to offset the other category, and finally up to $3,000 of ordinary income per year.
Who Should Use Tax-Loss Harvesting?
Good question. Tax-loss harvesting isn’t for everyone, but it can be incredibly useful for:
✅ Investors in taxable accounts (not retirement accounts like IRAs or 401(k)s)
✅ People with realized capital gains want to offset
✅ High-income earners who face steep taxes
✅ Long-term investors who want to clean up their portfolio without wasting the losses
If you’re a buy-and-hold index investor with most of your investments in tax-advantaged accounts, this strategy might not apply. But if you’re active in a taxable brokerage account, it’s a gem.
The Wash-Sale Rule: The IRS Isn’t Dumb
Here’s where many investors mess up: they sell a losing investment for the tax break and then immediately buy it back. That’s a no-go.
The wash-sale rule says: If you sell a security at a loss and buy the same or “substantially identical” security within 30 days before or after the sale, the loss is disallowed for tax purposes.
You can’t just sell Tesla stock, book the loss, and buy it again the next day. However, you can:
- Wait 31 days and then rebuy it
- Buy a similar (but not “substantially identical”) asset in the meantime
- Use ETFs that track a different but related index as a placeholder
For example, if you sell the Vanguard S&P 500 ETF (VOO), you might consider buying the Schwab U.S. Large-Cap ETF (SCHX) instead—different funds, but similar exposure.
How to Actually Do Tax-Loss Harvesting: Step-by-Step
- Review Your Portfolio
- Use your brokerage tools to check unrealized losses.
- Focus on taxable accounts only (not IRAs or 401(k)s).
- Identify What to Sell
- Look for assets with meaningful unrealized losses.
- Avoid triggering short-term losses unless they’re truly beneficial.
- Check for Gains
- Are you selling anything at a profit this year?
- Have you sold other investments already?
- Mind the Wash-Sale Rule
- Either stay out of the market for 31 days or buy a non-identical asset.
- Execute the Trade
- Sell the losing investment.
- Immediately reinvest the proceeds if you want to stay in the market.
- Track the Losses
- Keep records for your tax return.
- Brokerages usually report this, but it’s good to track manually too.
- Repeat if Needed
- You can do this multiple times a year—not just in December!
How Often Should You Harvest?
Contrary to what many believe, tax-loss harvesting isn’t just a year-end strategy. In fact, many robo-advisors like Betterment and Wealthfront do this year-round, often automatically.
You can set a calendar reminder to review your portfolio quarterly or after major market dips. Just remember: the strategy only works if you’ve got realized gains or future gains to offset.
Common Mistakes to Avoid
Here are a few potholes to watch out for on your tax-saving road:
❌ Ignoring the wash-sale rule
❌ Selling just to harvest a tiny loss
❌ Harvesting at the expense of long-term strategy
❌ Not reinvesting strategically
❌ Doing this in a retirement account (it doesn’t help there)
Tax-loss harvesting should fit into your overall investing and tax plan, not override it.
Can Robo-Advisors Help?
Absolutely! If you’re using a robo-advisor, there’s a good chance tax-loss harvesting is already happening behind the scenes. Platforms like:
- Betterment
- Wealthfront
- Schwab Intelligent Portfolios
…all offer automated tax-loss harvesting as a feature. It’s smart to let technology do the heavy lifting, especially when it comes to rules like the wash-sale rule.
Tax Software and Professional Help
During tax season, software like TurboTax, H&R Block, or TaxSlayer can help you correctly report your capital gains and losses. If your situation is more complex, consider working with a CPA or tax advisor.
They can:
- Help you maximize your losses strategically
- Guide you around wash-sale traps
- Integrate tax-loss harvesting with your overall tax plan
What If You Don’t Have Capital Gains?
Even if you didn’t sell anything at a gain, tax-loss harvesting still helps. You can use up to $3,000 per year to reduce your ordinary taxable income. Any unused losses roll forward indefinitely to offset future gains or income.
Advanced Strategy: TLH + Rebalancing
Here’s where things get spicy.
Let’s say you’re rebalancing your portfolio anyway—maybe your stocks have drifted too high relative to bonds. Instead of just selling gains to rebalance, you can:
- Harvest losses from losing assets
- Use proceeds to rebalance your allocation without triggering major gains
It’s like getting two birds with one stone: a cleaner, better-diversified portfolio and a lower tax bill.
Tax-Loss Harvesting and Crypto
Yes, you can do tax-loss harvesting with crypto! As of now, the IRS does not apply the wash-sale rule to cryptocurrencies. That means you can sell Bitcoin or Ethereum at a loss, buy it back the next day, and still claim the loss.
Just be aware: the rules might change in the future, so don’t bank on this forever.
When NOT to Harvest Losses
Even though it sounds great, there are situations where tax-loss harvesting might not be the best move:
- You’re in a low tax bracket now, but expect higher income later (you might want to realize gains instead)
- The loss is tiny and doesn’t offset much
- Selling would take you out of a long-term position you still believe in
Like any financial move, it’s all about context and goals.
Final Thoughts: Make the Market Work for You
Market downturns are never fun, but they don’t have to be a total loss. With tax-loss harvesting, you can turn lemons into lemonade—cutting your tax bill and making the most of a crummy market.
Here’s a quick recap:
- Tax-loss harvesting helps reduce your tax bill by offsetting gains or income.
- It works best in taxable accounts, especially during market dips.
- Watch out for the wash-sale rule.
- Use it in tandem with rebalancing and smart investing.
- Consider robo-advisors or a CPA to help automate or guide the process.
At the end of the day, losing money on paper doesn’t have to mean losing out completely. With tax-loss harvesting, you’re giving your future self a valuable tax break—and that’s a move any smart investor can feel good about.
Looking to make your money work smarter, not harder?
Subscribe to Your Pocket Matters and never miss a personal finance tip that actually makes a difference.
FAQ: Smart Money Move: How to Use Tax-Loss Harvesting to Turn Market Losses into Tax Savings
To help you out, we’ve put together answers to some of the most common questions people have about this topic—consider it your quick guide to get started with confidence.
What is tax-loss harvesting in simple terms?
Tax-loss harvesting is when you sell investments that have lost value to offset the taxes you owe on gains from other investments or regular income. It helps lower your overall tax bill.
Can I use tax-loss harvesting in my retirement accounts?
Nope! Tax-loss harvesting only applies to taxable brokerage accounts. Retirement accounts like IRAs and 401(k)s grow tax-deferred, so this strategy doesn’t work there.
What’s the wash-sale rule, and why does it matter?
The wash-sale rule says you can’t claim a tax loss if you buy the same or a “substantially identical” investment within 30 days before or after selling it. Violating this rule means your loss gets disallowed.
How much loss can I deduct each year?
You can use capital losses to offset gains dollar-for-dollar. If you still have losses left, you can deduct up to $3,000 of those against ordinary income each year. Any extra losses carry forward to future years.
Can I harvest losses if I didn’t make any gains this year?
Yes! Even without gains, you can use up to $3,000 in losses to reduce your taxable income—and carry forward the rest to future tax years.
How often should I do tax-loss harvesting?
You can review your portfolio and harvest losses several times a year, especially after a market dip. Many investors do this quarterly, while some robo-advisors do it automatically year-round.
Can I rebuy the same investment after harvesting a loss?
Yes, but only if you wait at least 31 days to avoid the wash-sale rule. Alternatively, you can buy a similar (but not identical) asset during that period to stay invested.
Does tax-loss harvesting affect my long-term investment goals?
Not necessarily. If done correctly, it can enhance your after-tax returns without altering your asset allocation. Just be sure your replacement investments keep your overall strategy intact.
Can I use tax-loss harvesting with cryptocurrencies?
Yes! As of now, crypto is not subject to the wash-sale rule, so you can sell a crypto asset at a loss and immediately buy it back. But keep an eye on regulations—they may change in the future.
Should I do tax-loss harvesting myself or use a professional?
It depends on your comfort level. Many DIY investors use tools from their brokerage or tax software. If your situation is complex, a financial advisor or tax pro can help you do it the smart way.
Abhishek started Your Pocket Matters in 2025 to share his personal experiences with money—both the struggles and the successes. From facing significant losses in trading to turning things around and becoming financially independent, he’s learned valuable lessons along the way. Now, he’s here to help you take control of your finances with honest, practical advice—no scams, no gimmicks, just real strategies to build wealth and achieve financial freedom.
- Abhishek Sinhahttps://yourpocketmatters.com/author/abhisheksinha8884gmail-com
- Abhishek Sinhahttps://yourpocketmatters.com/author/abhisheksinha8884gmail-com
- Abhishek Sinhahttps://yourpocketmatters.com/author/abhisheksinha8884gmail-com
- Abhishek Sinhahttps://yourpocketmatters.com/author/abhisheksinha8884gmail-com
