How ETFs Can Help You to Tax Harvest - dummies

By Russell Wild

Historically, the stock market takes something of a dip in one out of every three years. In the dip years, ETFs can help ease the pain.

Say it’s a particularly bad year for tech stocks, and you happen to own a few of the most beaten down of the dogs. Come late December, you can sell your losing tech stocks or mutual funds. As long as you don’t buy them back for 31 days, you can claim a tax loss for the year, and Uncle Sam, in a sense, helps foot the bill for your losses.

But do you really want to be out of the market for the entire month of January (typically one of the best months for stocks)? You don’t need to be.

Buy yourself a technology ETF, such as the Technology Select Sector SPDR (XLK), and you’re covered should the market suddenly take a jump. You can simply hold onto your ETF as a permanent investment or, if you wish, at the end of 31 days, you can always sell your ETF and buy back your beloved individual stocks or active mutual funds.

Tax harvesting has its place, but it has been in the past a by-and-large overvalued and overdone strategy. After all, there are costs involved whenever you make a trade. With ETFs and stocks, you pay a commission when you buy or sell. With any security, there is a spread. You can’t just buy and sell without some middleman somewhere taking a small cut.

Still, many investors cling to tax harvesting religiously. Please discuss the strategy with your tax adviser (or clergy) before proceeding next year, okay? Especially today, with the tax rate on capital gains expected to go up (perhaps depending on your income bracket), this whole business is trickier than ever.