As personal finance continues to change, savvy investors are constantly searching for creative ways to maximize profits and reduce tax liabilities. One such tactic that is becoming popular is “Income Tax Harvesting.
We’ll get into the details of income tax harvesting in this post, covering its advantages, important factors, and practical advice for putting this tax-saving investment strategy into practice.
What is Tax Harvesting?
Income Tax Harvesting, also known as Tax-Loss Harvesting, is a strategic investment approach aimed at minimizing capital gains taxes by intentionally realizing gains/losses in a portfolio.
The concept revolves around selling investments that have experienced a loss to offset gains elsewhere in the portfolio or even against ordinary income.
How to use Tax harvesting?
Before understanding how tax loss harvesting works. Let’s first understand how Long term capital gain( LTCG) is taxed.
Read the post to understand how Mutual funds are taxed Mutual Fund taxation – How your gains are taxed?
Let’s understand Tax harvesting with the help of Bestii Singh
Suppose Bestii purchased mutual fund worth 1 lac in 2021. Now suppose his mf valuation becomes 1.80 lac. Eventually he decides to sell his mutual fund units and book the profit.
Since his profit is less than 1 lac i.e. 90K, his gains are not taxable.
Now suppose he invested 3 lac and his current valuation in 2024 is Rs. 5.50 lacs. So his Long-term capital gain is 2.50 lac.
Now one lac out of 2.5 lac is tax exempt. while the remaining 1.5 lac will be taxed at the rate of 10%. Thus, Bestii’s LTCG lax liability will be Rs 15000.
But, if he had booked this profit earlier i.e. in 2022 and 2023 then his tax liability would have been zero. otherwise he could have offset the gains with any capital loss also.
But Tax harvesting benefits can go in vain if Bestii forgets or does not invest money again. In such a case whole purpose will be defeated.
In the case of Mutual Fund SIPs, one can book the profit from SIPs that have been completed in one year. But reinvestment is compulsory.
Tax Loss Harvesting-Another useful way to reduce taxes
Tax Loss Harvesting is again quite similar to tax harvesting. But here you are booking loss instead of profits and you offset these losses with any other capital gain you booked.
The idea is to offset capital gains by intentionally selling investments at a loss, thereby reducing the overall taxable income. This strategy is commonly used in taxable investment accounts and can be particularly beneficial for long-term investors.
Assessing Losses: Investors look over their portfolio to find assets that have lost value since they were bought.
Selling Losses: After realizing the capital losses on certain investments, the investor sells them. The intended asset allocation for the entire portfolio can then be maintained by reinvesting the sale profits in comparable but distinct assets.
Gain Offset: Any capital gains the investor may have made elsewhere in the portfolio may be balanced out by the capital losses generated through the sale. Up to a certain amount, excess losses from capital losses can be deducted from ordinary income if they outweigh profits.
Tax Efficiency: Investors may be able to cut their taxable income for the year and thus their tax payments by carefully harvesting losses.
It’s crucial to remember that tax regulations can be complex and constantly changing, and that tax loss harvesting’s efficacy varies depending on several variables, including the investor’s personal tax situation, investing objectives, and market conditions. To make sure that tax loss harvesting fits with their overall financial plan and objectives, investors are advised to speak with tax experts or financial Planners.
