Tax-loss harvesting lets you turn your investment losses into tax savings by offsetting capital gains. The IRS allows you to deduct losses dollar-for-dollar against gains, and you can even offset up to $3,000 of ordinary income each year. But there’s a catch—the wash sale rule can disqualify your losses if you’re not careful.
You need to understand how the 61-day window works, what counts as “substantially identical” securities, and which strategies keep you compliant while maintaining your market exposure. Get this wrong, and you’ll lose thousands in tax benefits.
What Is Tax-Loss Harvesting?
Tax-loss harvesting is selling investments at a loss to reduce your taxable income. When you sell a losing position in your taxable brokerage account, you create a capital loss that offsets your capital gains from other investments. If your losses exceed your gains, you can deduct up to $3,000 against your ordinary income and carry forward any remaining losses to future years.
The strategy works best when markets are volatile. You can sell underperforming stocks, bonds, mutual funds, or ETFs at a loss, then reinvest the proceeds into different securities to maintain your portfolio allocation. The key is timing your sales to maximize tax benefits without triggering the wash sale rule.
| Tax-Loss Harvesting Facts | Details |
|---|---|
| Maximum annual deduction against ordinary income | $3,000 ($1,500 if married filing separately) |
| Loss carryforward period | Unlimited—losses carry forward to future years |
| Wash sale waiting period | 61 days (30 days before + 30 days after + sale date) |
| Assets covered | Stocks, bonds, mutual funds, ETFs, options |
| Tax filing deadline for 2025 losses | December 31, 2025 (based on trade date) |
The Wash Sale Rule Explained
The wash sale rule prevents you from claiming a tax loss if you buy the same or substantially identical security within 30 days before or after selling at a loss. This creates a 61-day window where you cannot repurchase the same investment without losing your tax deduction.
The rule disallows your loss for tax purposes if you sell stock or securities at a loss and buy substantially identical investments within this period. The IRS created this rule to stop investors from claiming artificial losses while maintaining the same market position.
If you trigger a wash sale, your loss isn’t completely gone. The disallowed loss gets added to the basis of the replacement securities, which means you’ll have a lower taxable gain (or larger loss) when you eventually sell the new position. Your original holding period also transfers to the new securities, which can help you qualify for long-term capital gains treatment.
How the 61-Day Window Works
The wash sale period spans 61 days total: 30 days before your sale, the sale date itself, and 30 days after. You must avoid purchasing substantially identical securities during this entire window.
The IRS uses your trade date, not the settlement date, to determine which tax year your loss counts toward. With most stock transactions now settling in one business day (T+1), you need to execute your sale by December 31st if you want the loss to count for the current tax year.
Here’s what catches people off guard: the rule applies across all your accounts, including IRAs, 401(k)s, and even your spouse’s accounts. Selling in a taxable account and buying back in your IRA within 30 days triggers a wash sale. Your brokerage only tracks wash sales within the same account, so you’re responsible for monitoring transactions across your entire investment portfolio.
What Counts as “Substantially Identical”?
The IRS doesn’t provide a clear definition of “substantially identical,” which creates confusion for investors. You need to evaluate based on facts and circumstances.
Here’s what we know for certain:
Clear Wash Sales:
- Selling Apple stock and buying Apple stock again within 61 days
- Selling a call option on Microsoft and buying the same call option
- Selling shares in one brokerage account and buying them in another account or IRA
Generally Safe Swaps:
- Selling Apple and buying Microsoft (different companies, even in the same industry)
- Selling individual stock like Pfizer and buying a pharmaceutical sector ETF
- Selling an S&P 500 ETF and buying a Russell 1000 ETF (different indexes)
- Selling an actively managed fund and buying an index fund
Gray Areas:
- Two index funds tracking the same benchmark might be substantially identical, especially if both are passively managed
- Options with different strike prices or expiration dates on the same underlying stock
- Convertible preferred stock and common stock of the same company
The safer approach is being conservative. If two investments move almost identically and hold nearly the same securities, assume they’re substantially identical.
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Common Wash Sale Triggers You Need to Avoid
Many investors accidentally trigger wash sales through these common mistakes:
Dividend Reinvestment Plans (DRIPs): If you sell a stock at a loss and your automatic dividend reinvestment buys shares of the same stock within 30 days, you’ve triggered a wash sale. Turn off DRIP before selling at a loss.
Partial Position Sales: You sell half your Apple shares at a loss for tax harvesting, but continue holding the other half. If those remaining shares receive dividends that get reinvested, you’ve created a wash sale on your loss.
Spouse’s Purchases: The wash sale rule applies if you sell stock and your spouse buys substantially identical stock within the 61-day window. Coordinate your trading activities with your spouse.
Options and Stock: Selling stock at a loss and then buying call options on that same stock within 30 days triggers the rule. The option counts as a contract to acquire the stock.
Cross-Account Purchases: Selling mutual fund shares at a loss in your taxable account while your 401(k) continues making automatic purchases of the same fund creates a wash sale.
Strategies to Harvest Losses While Staying Compliant
You can maintain market exposure while respecting the wash sale rule through smart substitution strategies:
Sector Rotation: Sell your losing position in an individual tech stock and immediately buy a technology sector ETF. The ETF holds many companies, making it not substantially identical to any single stock.
Index Swapping: If you take a loss on an S&P 500 ETF, replace it with a Russell 1000 ETF or several different ETFs with similar but not identical assets. You maintain broad market exposure with different underlying holdings.
Factor Substitution: Replace a growth fund with a value fund in the same asset class. Both give you equity exposure but with different investment characteristics and holdings.
Bond Strategy: Sell losing bonds in one maturity range and buy bonds in a different maturity range. Different durations mean different risk profiles, so they’re not substantially identical.
International Swaps: Replace domestic holdings with international equivalents. A U.S. large-cap fund and an international developed markets fund have different geographic exposures.
Wait It Out: Sometimes the simplest approach is best. Sell your losing position, hold cash or invest in completely different assets for 31 days, then buy back your original investment if you still want it.
Step-by-Step Tax-Loss Harvesting Process
Here’s how to implement tax-loss harvesting correctly:
Step 1: Review Your Portfolio Identify positions currently showing losses. Compare the current market value to your cost basis (what you originally paid plus any reinvested dividends).
Step 2: Assess Your Tax Situation Calculate your capital gains for the year. Prioritize harvesting losses if you have short-term gains (taxed at higher ordinary income rates) to offset.
Step 3: Check the Calendar Verify you haven’t purchased the same security within the past 30 days. If you have, wait until the 61-day window closes before selling.
Step 4: Plan Your Replacement Decide whether you’ll wait 31 days to repurchase or buy a similar but not substantially identical investment immediately. Consider market risk during the waiting period.
Step 5: Execute the Sale Sell your losing position. Record the trade date, number of shares, and loss amount.
Step 6: Reinvest or Wait Either buy your replacement security immediately or mark your calendar for 31 days from the sale date when you can safely repurchase the original investment.
Step 7: Document Everything Keep detailed records of all transactions, including dates, amounts, and your reasoning for choosing replacement securities. This helps if the IRS questions your trades.
Tax Consequences and Cost Basis Adjustments
When you trigger a wash sale, the consequences affect your current and future tax returns.
The loss from your sale is disallowed, meaning you cannot claim it on your current tax return. This disallowed loss gets added to the cost basis of your newly acquired shares and only gets realized when you eventually sell those shares.
Here’s a practical example: You bought 100 shares of XYZ stock at $110 per share ($11,000 total). The stock drops, and you sell all 100 shares at $100 per share, creating a $1,000 loss. Two weeks later, you buy back 100 shares at $105 per share.
Because you repurchased within 30 days, you have a wash sale. Your $1,000 loss is disallowed for the current year. However, your new cost basis becomes $115 per share ($105 purchase price + $10 per share disallowed loss). If you later sell these shares at $120, your taxable gain is only $500 instead of $1,500.
The taxpayer’s holding period on the original shares also gets added to the holding period of the newly acquired shares. This can help you qualify for long-term capital gains rates (which are lower) if you sell within a year of the repurchase.
Year-End Tax Planning Considerations
December is prime time for tax-loss harvesting, but waiting until year-end has drawbacks.
Investments that are down early in the year could bounce back into positive territory, resulting in missed opportunities to sell losers and book losses. Taking a proactive approach throughout the year gives you more flexibility.
For 2025 tax benefits, you must complete your sale by December 31st. The trade date determines which tax year your transaction falls into, not when the money settles in your account.
Consider these year-end factors:
Market Timing Risk: If you wait 31 days to repurchase, the investment could rally significantly, costing you more than your tax savings.
Holiday Trading: Markets have shortened hours around holidays. Don’t assume you can trade on the last business day of the year.
Short-Term vs. Long-Term: Harvested losses offset capital gains dollar-for-dollar, but prioritize offsetting short-term gains first since they’re taxed at higher rates.
State Taxes: Remember that capital losses also reduce your state tax liability in most states.
Alternative Minimum Tax (AMT): If you’re subject to AMT, your tax savings from harvesting losses might be reduced.
Cryptocurrency and the Wash Sale Rule
Good news for crypto investors: the wash sale rule currently doesn’t apply to cryptocurrencies like Bitcoin, Ethereum, or other digital assets. The IRS treats cryptocurrency as property, not securities, so you can sell crypto at a loss and immediately buy it back without triggering a wash sale.
This creates significant tax planning opportunities for crypto holders. You can harvest losses whenever advantageous without worrying about the 61-day waiting period. However, proposed legislation could change this in future years, so stay informed about tax law updates.
Should You Do Tax-Loss Harvesting?
Tax-loss harvesting makes sense when:
- You have capital gains to offset (especially short-term gains)
- You’re in a high tax bracket where the savings are meaningful
- You have losses in a taxable account (not an IRA or 401(k))
- Transaction costs won’t eat up your tax savings
- You can find suitable replacement investments or wait 31 days
Tax-loss harvesting may not be worth it if:
- Your losses are small and transaction fees are high
- You’re in a low tax bracket with minimal capital gains
- You can’t identify appropriate replacement securities
- Market conditions suggest significant price movement during the 61-day window
Remember that tax-loss harvesting is a tax-deferral strategy, not a complete tax elimination. You’re reducing your cost basis on replacement securities, which means you’ll owe more taxes when you eventually sell at a profit.
Professional Guidance and Tools
Many brokerages now offer automated tax-loss harvesting through robo-advisors. These services monitor your portfolio daily and automatically sell losing positions when opportunities arise, immediately reinvesting in similar but not substantially identical securities.
Your tax professional can help you:
- Calculate the exact tax benefit of harvesting specific losses
- Determine which securities are safe to swap
- Plan multi-year tax strategies using loss carryforwards
- Navigate complex situations involving multiple accounts or entity structures
Financial advisors can integrate tax-loss harvesting into your broader investment strategy, ensuring your tax moves don’t compromise your long-term financial goals.
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Frequently Asked Questions
Can I sell a stock at a loss and buy it back the same day?
No, this creates an immediate wash sale. You must wait at least 31 days after selling before repurchasing the same security. Buying on day 31 or later keeps you outside the 61-day wash sale window.
What happens if I accidentally trigger a wash sale?
Your loss gets disallowed for the current tax year, but it’s not permanently lost. The disallowed amount gets added to the cost basis of your replacement shares, reducing your future tax liability when you sell those shares. Your brokerage should report wash sales on Form 1099-B.
Do wash sale rules apply to my IRA or 401(k)?
Retirement accounts never generate taxable capital gains or losses, so the wash sale rule doesn’t apply to transactions within those accounts. However, selling at a loss in a taxable account and buying back in your IRA within 30 days triggers a wash sale. The rule applies across account types.
Can I tax-loss harvest in December and buy back in January?
Yes, this is common year-end planning. Sell by December 31st to claim the loss on your current year return, then repurchase after 30 days (January 30th or later). Just make sure you count calendar days correctly and account for weekends and holidays.
How do I know if two ETFs are substantially identical?
Compare their underlying indexes, holdings overlap, and how closely their prices move together. Two S&P 500 index funds from different providers are likely substantially identical. An S&P 500 fund and a Russell 1000 fund have enough differences to avoid wash sale concerns. When in doubt, choose funds with clearly different strategies or benchmarks.
Tax-loss harvesting gives you a powerful tool to reduce your tax bill, but the wash sale rule requires careful planning. Track your transactions across all accounts, choose replacement securities thoughtfully, and consider working with a tax professional for complex situations. Your investment losses can become valuable tax deductions—just make sure you follow the rules to claim them.
