Quick overview

Tax-loss harvesting is the purposeful realization of investment losses in taxable accounts to reduce current-year taxable gains or carry losses forward. The approach is most useful for taxable brokerage accounts—trusts and estates can also benefit—but it does not apply to tax-advantaged retirement accounts such as IRAs or 401(k)s. When done with clear rules and records, tax-loss harvesting can meaningfully increase after-tax returns over time.

This article covers practical best practices, IRS considerations, reporting, common pitfalls, and workflow suggestions you can adopt year-round.

Why best practices matter

Realizing losses without a plan can create tax headaches or lock in poor long-term outcomes. Common mistakes include triggering the wash-sale rule that disallows a loss, repurchasing identical holdings too soon, or creating a tax paper trail that’s hard to reconcile. A repeatable, documented process reduces audit risk, preserves portfolio intent, and avoids wasting tax benefit.

Core best practices

  1. Build a written harvesting policy
  • Define triggers: percentage drop, absolute loss amount, or rebalancing needs. A rule-based approach (for example: harvest tax lots down 15% or more that are not part of your core allocation) removes emotion.
  • Set replacement rules: what alternative securities you will buy to keep market exposure while avoiding the wash-sale rule.
  • Maintain an annual review cadence and list of tax lots by acquisition date and cost basis.
  1. Use specific identification for tax lots
  • When selling, instruct your broker to use Specific Identification (Spec ID) to choose which lots to sell (oldest, highest-loss, short-term vs long-term). This can materially change tax outcomes compared with FIFO.
  • Keep records of Spec ID selections—many broker interfaces allow you to select the lot at the point of trade.
  1. Respect the wash-sale rule and document replacements
  • The IRS wash-sale rule disallows a loss if you buy the same or a “substantially identical” security within 30 days before or after the sale (Publication 550; Topic No. 409) (see IRS guidance: https://www.irs.gov/taxtopics/tc409 and https://www.irs.gov/publications/p550).
  • To maintain exposure, buy a materially different ETF or mutual fund (for instance, swap a sector ETF for a similar ETF from a different issuer or use a broadly diversified fund instead of the single-stock position).
  • Beware of repurchases across accounts: a buy in an IRA within the 30-day window can still trigger a wash sale and permanently disallow the loss. See the IRS Publication 550 discussion on wash sales.
  1. Consider replacement securities carefully
  • Use synthetic exposure (e.g., a broad market ETF in place of a single-stock holding) for 30+ days, or use non-correlated alternatives when appropriate.
  • Watch bid-ask spreads, tracking error, and tax efficiency of replacements—transaction costs and future tax attributes should not negate the realized tax benefit.
  1. Track short-term vs long-term lots
  • Short-term losses offset short-term gains first. Because short-term gains are taxed at ordinary income rates, harvesting short-term losses can be more valuable.
  • Use lot selection to prioritize offsets that provide the largest tax benefit given your expected tax bracket.
  1. Prioritize gains and tax brackets
  • Coordinate harvesting with your tax bracket and expected income. If you expect a lower-income year, you might defer harvesting losses to offset gains in a future year where they produce more benefit, or intentionally realize gains in low-bracket years and preserve losses for higher years.
  • Consider interaction with the Net Investment Income Tax (NIIT) and other surtaxes when harvesting large gains or losses.
  1. Think multi-year and carryforwards
  • Capital losses that exceed capital gains can offset up to $3,000 ($1,500 if married filing separately) of ordinary income per year; unused losses carry forward indefinitely until fully used (IRS Topic No. 409).
  • Plan harvests across years using a multi-year framework rather than only year-end opportunism. For a deeper workflow on this, see our guide on Harvesting Tax Losses Strategically Across Multiple Years.

Reporting and recordkeeping

  • Report realized gains and losses on Form 8949 and carry totals to Schedule D when you file your federal return (see IRS Form 8949 instructions: https://www.irs.gov/forms-pubs/about-form-8949).
  • Keep detailed records: trade confirmations, statements showing cost basis, lot identifiers, dates, and replacement securities. Good records make tax reporting straightforward and defendable if questioned.
  • Reconcile broker cost-basis reports with your tax software or preparer. Brokers sometimes use FIFO unless you confirm Spec ID. Errors in reported basis are common and should be corrected before filing.

Special situations and traps

  • Buying back in an IRA: If you sell a security for a loss in a taxable account and buy the same security inside an IRA within the 30-day wash-sale window, the loss is disallowed and cannot be added to the IRA basis—this is a permanent denial of the tax benefit (see Publication 550).
  • Crypto and wash sales: As of 2025, the wash-sale rule applies to stocks and securities. The IRS treats cryptocurrency as property, and there is still legal and administrative debate about applying wash-sale rules to crypto. Some brokerages and robo-advisors apply wash-sale-like controls, but the law is not settled. See IRS virtual currency guidance for background (https://www.irs.gov/businesses/small-businesses-self-employed/virtual-currencies).
  • Large concentrated positions: For founders or employees with large concentrated stock positions, tax-loss harvesting is one tool but must be integrated with diversification, insider trading windows, and company sale events. See our guide on Concentrated Stock Management for broader context.

Practical year-round workflow (sample)

  1. Quarterly scan: Identify loss lots beyond your trigger threshold and review for substitution.
  2. Rebalance window: Combine tax-loss harvesting with rebalancing to avoid trading solely for tax reasons when it harms allocation.
  3. Pre-holiday check: Two weeks before year-end, run a final loss-harvest sweep and confirm wash-sale windows around expected trades.
  4. Post-trade documentation: Record lot IDs, replacement tickers, trade timestamps, and confirm Spec ID on sales.

For an operational workflow, see our article on Year-Round Tax-Loss Harvesting: A Practical Workflow.

Examples (illustrative)

Example A: Offset a $10,000 gain

  • Realized long-term gain: $10,000
  • Harvested losses (long-term + short-term): $7,000
  • Net taxable gain: $3,000

Example B: Carryforward use

  • Realized gains = $0 for the year
  • Loss harvested = $8,000
  • Apply $3,000 to ordinary income this year; carryforward $5,000 for future years.

These simplified examples show the mechanics—your actual tax benefit depends on lot dates, your marginal rate, and other income-phaseout rules.

Common mistakes to avoid

  • Ignoring the 30-day wash-sale window across all accounts and IRAs.
  • Not using Spec ID when it would yield a better tax result.
  • Letting tax motives override sound investment strategy—don’t sell high-quality holdings solely for a small tax benefit.
  • Failing to coordinate with year-end planning and expected income changes.

When to get professional help

Work with a CPA or tax advisor if you have:

  • Large realized gains or losses in excess of portfolio norms.
  • Cross-account wash-sale complexity (taxable accounts, IRAs, trusts).
  • Complex assets such as restricted stock units (RSUs), options, or cryptocurrency.

In my practice, clients get the most value from tax-loss harvesting when it is integrated with rebalancing and long-term planning rather than treated as a one-off year-end exercise.

Bottom line

Tax-loss harvesting can be a powerful, cost-effective way to improve after-tax returns when executed with discipline: use a written policy, employ tax-lot strategies, avoid wash-sale pitfalls, and document everything. The rules and tradeoffs are straightforward but detail-oriented; tie harvesting into a broader tax-aware portfolio plan.

Sources and further reading

Professional disclaimer: This article is educational only and does not constitute tax, investment, or legal advice. Consult a qualified tax professional or financial advisor for guidance tailored to your situation.