# Tax-Loss Harvesting: Turning Losses into a Tax Asset
Tax-loss harvesting is the practice of selling an investment at a loss to realize that loss for tax purposes, then immediately reinvesting in a similar (but not identical) investment to maintain market exposure. The result: an immediate tax deduction with no meaningful change in portfolio exposure.
How it works
You hold VTSAX (Vanguard Total Stock Market Index Fund) purchased at $100/share. It's now trading at $85 — a $15 unrealized loss. You sell VTSAX, realizing a $15/share capital loss, and immediately buy SCHB (Schwab U.S. Broad Market ETF) — a highly correlated fund that tracks essentially the same market.
You've locked in a tax loss with no material change in portfolio exposure. The loss offsets capital gains dollar-for-dollar. If you have no gains, up to $3,000 of excess losses can offset ordinary income annually, with the remainder carrying forward indefinitely.
The tax math
**Offsetting capital gains:** A $10,000 harvested loss offsets $10,000 in capital gains. If those gains would have been taxed at 15% long-term capital gains rate, you've saved $1,500 in taxes — immediately.
**The deferral effect:** Even if you can't offset gains today, losses carry forward. The deferred tax is still deferred capital gains in your replacement position — you've essentially borrowed from the future, and that borrowing compounds in your favor as long as the tax is deferred.
**Ordinary income offset:** In the absence of gains, losses offset ordinary income at your marginal rate — potentially worth 22–37% vs. the 15% they'd offset at long-term capital gains rates when eventually realized.
Tax-Loss Harvesting
Realized losses offset realized gains (short-term first — biggest savings), then up to $3,000/year of ordinary income. Excess carries forward to future years.
Educational illustration — not financial advice. Math: @/lib/finance/tax.ts. Doesn't model wash-sale rules (a real concern when harvesting — re-buying the same security within 30 days disallows the loss).
The wash-sale rule
The IRS wash-sale rule prevents you from claiming a loss if you buy a "substantially identical" security within 30 days before or after the sale. You cannot sell SPY and immediately buy SPY, claim a loss, and buy SPY back the next day.
What you can do: sell SPY (S&P 500) and buy VTI (Total Market) or IVV (another S&P 500 ETF issued by a different company). The IRS has never formally defined "substantially identical" for index funds, but different-fund-family ETFs tracking similar (not identical) indices are generally considered acceptable.
Common swap pairs: VTSAX ↔ FSKAX, VTI ↔ SCHB, VXUS ↔ IXUS, AGG ↔ BND.
Who benefits most
Tax-loss harvesting has the highest value for: - Investors in high tax brackets (32%+ ordinary income) - Investors with significant taxable accounts and existing capital gains - Investors in volatile markets (more loss opportunities) - Investors with long time horizons (losses compound via deferral for decades)
Robo-advisors like Betterment and Wealthfront automate daily tax-loss harvesting. For large taxable accounts, this automation can add 0.1–0.5% annually in after-tax returns.
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*Related: [Rebalancing](./rebalancing) — tax-loss harvesting and rebalancing often happen together. [Income tax brackets](./income-tax-brackets-explained) — your bracket determines the value of each harvested loss.*
Frequently Asked Questions
how does tax loss harvesting work
Tax-loss harvesting sells losing positions to realize losses that offset capital gains or up to $3,000 of ordinary income annually. You immediately repurchase similar (but not identical) securities to maintain market exposure, converting paper losses into tax dollars saved—with deductions carried forward indefinitely.
what is the wash sale rule in tax loss harvesting
The wash-sale rule disallows losses if you buy substantially identical securities within 30 days before or after the sale. To avoid triggering this trap, wait 31 days before repurchasing, or swap into a similar but not identical security (e.g., different bond fund).
how much money can tax loss harvesting save
Savings depend on your tax bracket and loss timing. A $10,000 loss harvested at 24% federal tax saves $2,400 immediately; combined with state taxes, effective savings can exceed $3,000. Systematic harvesting in volatile portfolios can add 0.5–1% annual value after costs.