When it comes to selling investments, the old saying goes BUY LOW, SELL HIGH? Tax loss selling is one of the very few reasons where you might find a reason to actually sell low.
Tax loss selling is simply a tax strategy to minimize capital gains from other sources. Tax loss selling only applies to investments outside the RRSP. It can include things like mutual funds, stocks and property (other than personal residence) like rental property or family cottages.
How does tax loss selling work?
Here's one common example I see these days. Let's say you have an investment portfolio that has not done too well because of the markets. Let's also assume you were fortunate enough to have a second property during this real estate boom and now you are looking to sell it to take advantage of the gains. In many cases, the gains on real estate in Alberta can be really significant in the hundreds of thousands. The tax bill on selling a property can be pretty shocking.
If you have other investments like mutual funds or stocks that have not done that well, you can sell them at a loss and use to loss to offset the some or all of the gains on the property so that you pay a lot less tax.
What if you don't want to sell the investment?
In some cases, you may not want to sell investments that are down because you think they will come back and in many cases, that is pretty smart thinking. With tax loss selling, you can sell an investment that is down but you can't buy it back for 30 days otherwise your losses can be disallowed. Instead, you may want to buy a similar investment.
For example, let's say you had a bank stock that you were going to sell but you thought the banks were still a pretty solid investment. You could sell your Royal Bank shares, for example, and buy TD Bank so that you still own a bank because generally banks move together. After 30 days you could buy back Royal Bank because that's your first choice.
In the mutual fund world, there are often difference classes of the exact same fund. For example, you might own a Mackenzie – class A fund. You could shift the money to the same Mackenzie fund but in a Class T.
Under what circumstances would you want to do some tax loss selling?
- If you want to sell an investment with significant capital gains, you would look through all your investments to see if there are opportunities to sell investments at a loss.
- As a tax deferral strategy. With tax losses, you can apply those losses back three years or carry them forward indefinitely. In other words, you might trigger a loss now because you are planning to sell that property next year or the year after. If you wait to sell the investment that is at a loss, it may rebound back by that time and there will be no opportunity offset the gains.
- Get a refund for a previous year. Remember, you can apply capital losses back three years. Let's say you sold a property last year for big gains and paid the tax. This year, you could sell other investments at a loss and apply them back to last year and get some of that tax you paid back into your pockets.
- Getting rid of a real loser. Maybe you have an investment in your portfolio that is a real loser. Maybe it's time to just get on and put the money somewhere else that has more opportunity to make back the losses. In that case, sell the investment and hope that you can use the loss in the future for another investment that does better.
My two cents
Tax loss selling as you can see, can be pretty complicated and is a somewhat sophisticated strategy. If you are some of these examples apply in your life, I would seek some input from either a financial advisor or an accountant to make sure the strategy works.