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The Market can remain irrational longer than you can remain solvent.
—John Maynard Keynes

All investors, even the legendary Warren Buffett and Peter Lynch, will suffer through losses at times. Onyx Investments expects for the market to remain highly inefficient through the near term, which means that asset prices may be far removed from reality.

The perfect trade, on paper, may still stay in the red.

The best investors know when to fold and cut losses in this high-stakes game of poker, rather than continuously throw good money after bad. For added relief, stock market losses are taken as deductions from taxable income. Intelligent investors are especially adept at tax loss harvesting.

Realized Capital Gains and Losses

Capital gains and losses are realized at the exact moment an investment is sold. For taxation purposes, the IRS classifies capital gains and losses according to time frame.

For 2023, long-term capital gains are taxed at lower, 0, 15, and 20-percent rates. Short-term capital gains are taxed as ordinary income, with the highest bracket being 37%. Long-term investments are held for at least one year, before being sold.

To begin, you will subtract away long-term capital losses from long-term capital gains and short-term capital losses away from short-term capital gains. Net realized capital gains will be added to your taxable income.

Realized capital losses that exceed total capital gains will be subtracted away from your taxable income – to the maximum amount of $3,000. Any realized capital losses above the $3,000 limit may be carried forward and written off in subsequent years.

Organizing Your Tax Paperwork

Brokerages will prepare and deliver Form 1099-B, proceeds from broker and barter exchange transactions, prior to the start of tax season. Form 1099-B details capital gains and losses from all investments made through the brokerage.

From the 1099-B, we calculate total capital gains and losses by subtracting away cost basis from gross proceeds. For the sake of accuracy, investors may reconcile 1099-B data against monthly brokerage statement transactions.

1099-B information is entered directly onto IRS Form 8949, which lists out individual securities according to long-term and short-term trading activity.

Next, Schedule D summarizes 1099-B and 8949 information, by netting out long and short-term capital gains, or any realized capital losses. For the tax year, Schedule D again warns that realized capital losses are capped out at $3,000.

Schedule D summary information is entered as a line item within the Form 1040 income section. Lastly, we reference the Qualified Dividends and Capital Gains Tax worksheet to calculate the total tax bill.

No Wash Sales

The IRS prohibits taking wash sale losses as deductions – to discourage even more cynical manipulation of the tax code.

A wash sale occurs when you sell off an investment at a loss, and immediately buy back that same investment within the next 30 days. The 1099-B form will highlight wash sales and omit these transactions as part of realized loss calculations.

To add further insult to injury amateur day traders are always in for a real treat, when they discover that none of their staggering losses are tax deductible.

Tax Loss Harvesting Strategies

Investors often times dump losing stocks in November, only to buy these same stocks back the following year. A trader might also consider dancing in and out of similarly paired stocks, like Exxon Mobil and Chevron or Microsoft and Apple, to write off losses while still complying with the wash sale rule.

We do expect an uptick in volatility towards the end of the year, when institutional investors sell out of losing stocks to take write offs, and simultaneously pour into winning stocks for window dressing.

For Onyx Investments itself, our goal is to generate alpha returns, and not necessarily to save money on taxes. We prefer to pay capital gains taxes on winning stocks, rather than to smugly pat ourselves on the back for writing off a bad investment.