How to manage your capital gains tax
This is not a secret: people don’t like paying capital gains tax on profits you've made from your investments, but what if there was a way to minimize or even eliminate that tax burden? Everyone is liable to pay capital gains tax on profit made on certain assets over your annual allowance of £6,000 each year at 10% or 20% (depending on your tax band). Tax Loss Harvesting is a strategy used to offset capital gains by intentionally selling investments that have incurred losses.
This is a lot easier when you own open ended/ETFs as tend to have multiple share classes
Here are 4 tax loss harvest strategies that you can employ right now:
Using tax efficient accounts - One of the most common strategies, you sell you losses held in a taxable account and buy back straightaway in one of your tax efficient accounts i.e. ISA or SIPP.
- Benefit – Increase overall tax efficiency.
- Downside – Limits the max contribution of these accounts.
Using different investment classes - Another strategy is to sell and repurchase into different investment classes (only if you own funds/ETFs). Since most funds with have an accumulation and distribution share class, these near identical investment are deemed different for CGT purposes.
- Benefit – Can switch within your taxable account, so no contribution restrictions.
- Downside – Share classes may not be available.
Using different provider with same underlying exposure - If another share class is unavailable, then try matching the underlying exposure i.e. if it’s an ETF, you should be able to find another provider with the same underlying index.
- Benefit – Large availability of ETFs for main market indexes.
- Downside – Underlying exposures may be slightly different and limited for sector/thematic benchmarks.
Finding highly correlated investments - It’s a bit harder to replicate if you just own stocks or closed ended funds. In this situation, you could look at swapping stocks that are highly correlated e.g. sell BP and buy Shell. This is riskier as you are taking on company specific risks.
- Benefit – allows you to take losses on stocks while maintain market exposure.
- Downside – correlations come and go, subject to company specific risk and difficult to find the perfect alternative.
Things to consider
The 30-Day Holding Rule: Important Consideration - To comply with regulations, if you sell an investment at a loss, you must avoid repurchasing the same investment within 30 days to prevent a "wash sale" and disallowance of the loss for tax purposes.
Trading costs - As some of these strategies require multiple trades, it’s important to know how much it will cost and if you aren’t sure it’s always worth consulting a professional!
How to Take Losses in Your Portfolio - You can Implement tax loss harvesting with these steps:
- Review holdings: Identify investments that have declined in value.
- Assess gains: Determine the amount you wish to offset in capital gains.
- Sell at a loss: Execute the sale of the declining investments to realise capital losses.
- Buy a the twin investment: Maintain market exposure and buy the investments twin.
- Observe the 30-day period: Once the 30 days has passed, switch back to the investment you started with.
Putting it into action
This is a lot easier when you own open ended/ETFs as tend to have multiple share classes, usually an accumulation and distribution class.Depending on which you own, you can sell one and buy the other.
For ETFs, if you can’t find another share class, you’ll usually be able to find another provider that is giving the same underlying exposure.
It’s a bit harder to replicate if you just own stocks or closed ended funds. In this situation, you could look at swapping stocks that are highly correlated e.g. sell BP and buy Shell. This is riskier as you are taking on company specific risks.
