With the recent fluctuations in the market, it’s likely that you’ve experienced some losses on investments, but, now imagine a way where you can turn these losses into tax-saving opportunities with the concept of tax loss harvesting.
Tax Loss Harvesting
Simply, a legal way to save your taxes from the losses incurred from investments!
Remember:
- Long-term capital losses (LTCL) can be set off against only long-term capital gains (LTCG). Meaning, one cannot set off long-term capital losses against short-term capital gains (STCG).
- Short-term capital losses can be set off against both short-term capital gains (STCG) and long-term capital gains (LTCG).
- You can carry forward the STCL & LTCL for up to 8 assessment years.
Let’s understand how tax-loss harvesting works,
Let’s say you have invested some stocks in an equity mutual fund on August 2021 and the investment value increased for such an equity fund in January 2023. However, certain holdings saw a decline in market value, presently the portfolio looks like this:
- Long-Term Capital Gains = ₹5,00,000
- Short-Term Capital Gains = ₹3,00,000
- Unrealized Losses (LTCL) = ₹5,20,000
Now at this point, if you sell these stocks, your tax liability would be as follows (without tax loss harvesting):
Taxability of LTCG = (5,00,000 - 1,00,000) x 10% = ₹40,000
Taxability of STCG = 3,00,000 x 15% = ₹45,000
Total Tax Liability = ₹85,000
As stated above, the unrealized LTCL is ₹5,20,000 from certain holdings.
Now, if you sell this investment, you are booking losses of ₹5,20,000, which you can use to set off any long-term capital gains you may have received during the year.
Here you could wait to recover the losses, but if you do so, you miss out on the opportunity to tax-loss harvest.
Your tax liability would be as follows (with tax loss harvesting):
| Particulars | Amount (in ₹) |
|---|---|
| Long-Term Capital Gains (LTCG) | 5,00,000 |
| Short-Term Capital Gains (STCG) | 3,00,000 |
| Realized Loss (LTCL) | (5,20,000) |
| Loss Set-off | 5,00,000 |
| Loss carried forward | 20,000 |
| Total Tax Liability | 45,000 |
Here you manage to save the amount of ₹40,000 as your total tax liability is ₹45,000 after considering the Tax Loss Harvesting, against ₹85,000 which you would have paid otherwise.
Make sure you re-invest the proceeds immediately from the sale of unrealized losses in the same stocks. Assume in this case of unrealized loss, you sold stock at ₹5,20,000, which you must have purchased in ₹6,50,000, and buy a similar investment worth the same amount of ₹5,20,000 which established a new cost basis. The market then goes up to 40% in the following year and your ₹5,20,000 investment becomes ₹7,28,000.
On paper, you show a loss of ₹5,20,000 for tax purposes, but your investment is up ₹78,000 from where it originally started.
Tax loss harvesting is a simple yet effective way to reduce your overall taxes.
Read more about Tax Loss Harvesting for Stock Traders - Learn by Quicko.
If any queries, ask them out!