Financial Fitness

Five Important Considerations When Managing Capital Gains

If your investments have increased in value, you may be thinking about selling. Before you sell, create a plan for managing those capital gains.

by Mark Tosczak - November 04, 2019

The famous adage “buy low, sell high” is a classic investment formula that may yield success. But capital gains taxes—owed on the profits made when investors sell for more than the purchase price in a taxable account—may take a bite out of your desired outcome unless you plan for them.

The best time to do that might be now, says David Furst, an Advice Strategy Specialist with Wells Fargo Advisors. Investors and their advisors often rebalance their portfolios at the end of the year, he says, which makes it an ideal time to create a plan. Here, he shares five important topics for investors to consider when managing capital gains.

1. Explore tax-loss harvesting

Furst says you should consider selling taxable investments that lost money and claiming a tax loss, otherwise known as tax-loss harvesting. That may balance out the capital gains taxes triggered by the sale of investments that increased in value.

While the Tax Cuts and Jobs Act didn’t change capital gains tax rates, it did change ordinary income tax brackets, which may make tax-loss harvesting especially beneficial. Furst says investors could see a benefit if they harvest just the right amount of losses, as it could potentially offset some other tax liabilities.

2. Control the timing

Capital gains rates on investments held for less than a year are usually higher than investments that are held longer.

“Long-term capital gains are taxed at capital gains rates, which are generally lower,” Furst says. “Short-term capital gains, anything inside of a year, are taxed at your normal income rate tax rate.”

For a married couple making $250,000 a year, for instance, the long-term capital gains rate for 2019 is 15%. But short-term capital gains have the standard income tax rate of 24% applied. (Learn more about capital gains and find 2019 tax-planning tables at the Wells Fargo Advisors Tax Center.)

Because of this difference, Furst says that it may make sense to delay selling securities until they’ve been owned for at least a year.

3. Pick your investments wisely

The type of investment you choose may also impact capital gains taxes. Some funds, for example, have passive strategies focused on buying and holding securities for longer periods. Those don’t generate as many transactions that lead to capital gains taxes that are then passed through to investors.

Other funds are actively managed and involve a fund manager buying and selling securities over the course of a year to meet investment goals. Those funds may generate more transactions that lead to capital gains taxes.

“A lot of people look at expense ratios,” Furst says. “Fewer people look at the turnover rate. I think the turnover rate, especially for active managers, is going to end up mattering more in terms of capital gains tax considerations.”

4. Choose accounts strategically

Another consideration, Furst says, is the type of account in which you hold your investments.

A tax-advantaged account might be a good place to hold an actively managed fund, for example.

“Using tax-advantaged accounts—529 plans, IRAs, 401(k)s—is the first line of defense,” Furst says. “People forget that these accounts were created for a reason, and they don’t necessarily use them to their fullest.”

5. Donate securities instead of cash

Donating securities instead of the cash donation you might otherwise make could net tax savings as well.

“If you sell the securities and donate the proceeds, you may generate a capital gains tax liability,” Furst says. “But if you donate the securities, there is none.” Bonus: The charitable donation itself might also generate additional tax savings in the form of a deduction.

Mark Tosczak has spent 25 years wrangling words for newspapers, magazines, businesses, nonprofits, and other organizations. He focuses on health care, science, and business.

Additional Resources

For more information on tax planning, visit the Wells Fargo Advisors Tax Center.

Wells Fargo Advisors and its affiliates do not provide legal or tax advice.