How do taxes affect the buy-sell decision?

September 15, 2005

In general, the decision to sell shouldn't be driven by potential tax ramifications, cautions CPA Mark A. Steber, vice president of Tax Resources at Jackson Hewitt Tax Service, in Parsippany, NJ. You shouldn't sell purely to capture a tax loss and you shouldn't hold to avoid paying Uncle Sam. "Once you've made the decision to sell purely from an investment standpoint, only then does it make good sense to analyze the tax implications," Steber said.

In general, the decision to sell shouldn't be driven by potential tax ramifications, cautions CPA Mark A. Steber, vice president of Tax Resources at Jackson Hewitt Tax Service, in Parsippany, NJ. You shouldn't sell purely to capture a tax loss and you shouldn't hold to avoid paying Uncle Sam. "Once you've made the decision to sell purely from an investment standpoint, only then does it make good sense to analyze the tax implications," Steber said.

Keep detailed records of each of your holdings, so you can document the date you obtained it and the price you acquired it at, including commissions and fees.

"Detailed books and records allow for better tax management and can have a significant impact on your return on equity," Steber stressed.

"The IRS likes to reward long-term holding, hence the more favorable long-term capital gains tax rate," Steber said. Tax law is complex and rife with exceptions, so you should consult your accountant for case-specific answers, but simply put, here's the basic process used to tally losses: first, net short-term losses and short-term gains; second, net long-term losses and long-term gains; and, finally, net leftover long- and short-term losses against gains. Up to $3,000 of the remaining capital loss can be used in a single taxable year to reduce your ordinary income ($1,500 if you are married, filing separately).

Some investors try to create a taxable loss by selling their shares, only to buy them back right away. The IRS' wash-sale rule was created to prevent such a strategy and disallows a loss if the investor repurchases essentially identical shares within 30 days before and 30 days after the date of the sale.

"The IRS' rationale is that there really hasn't been a loss if you are effectively still holding the stock or fund," Steber explained.

Of course, many investors sidestep this technicality by repurchasing the investment 31 days after the sale.