Tax Loss Harvesting—Everything You Should Know

With the economy slowing down worldwide, markets have become volatile and the news of the plummeting stock value has become common. If you are an investor, it is more than a speculation that you have been worried about your assets. More than a few people have faced similar situations, and thus, the idea of tax loss harvesting has emerged as a workaround. Tax loss harvesting helps you reap the maximum value from the assets you own so that you do not drown when the market is treading turbulent waters.

• It is normal to make capital gains and capital losses if you invest in stocks.
• You pay taxes only on your net profit.
• Account for every expense when you calculate your net profit.
• You can use tax loss harvesting to minimise these losses by selling the loss-incurring stocks.
• The proceeds from these sales can be re-invested in better stocks that have performed well in the recent past.

The principal objective of tax loss harvesting is to minimise the tax on the investor’s assets so that the amount does not cause further monetary loss. If you have invested in equity stocks, it is common wisdom that you either make capital gains or capital losses. Now, the government imposes taxes on the net profit you earn from the assets, meaning that if you have made a profit of Rs. 60,000 and a loss of Rs. 10,000, you pay a tax on the net profit (Rs. 50,0000). Under tax loss harvesting, you identify and sell the stocks that would never have caused you any gain. This strategy helps you to reduce the net taxable profit, thus minimising your loss.

It is important to understand when tax loss harvesting can be used to your advantage. Let us imagine a scenario with respect to equity funds:

• You have short-term capital gains (STCG) of Rs. 1,00,000, which is taxable at 20% (after UB 2024 announcements), so you pay a tax of Rs. 20,000.
• Also, you have long-term capital gains (LTCG) of Rs. 50,000. Since LTCG is taxed at 12.5% on gains exceeding Rs. 1.25 lakh in a financial year, you won’t have to pay taxes on Rs. 50,000.
• Thus, your total tax liability stands at Rs. 20,000.

Thereafter, it comes to your attention that some assets among your stocks, equity and debt funds have caused you a short-term capital loss of Rs. 40,000. So, you sell these stocks and register Rs. 40,000 as your loss. So, now your STCG stands at Rs. 60,000 (Rs. 1,00,000 – Rs. 40,000). At the same tax rate, you will have to pay a tax of Rs. 12,000. In other words, you save Rs. 8,000 (Rs. 20,000 – Rs. 12,000) in taxes on your STCG. Moreover, you still have the proceeds from the sale you made of the assets that caused you a loss. These proceeds can be re-invested in better-performing stocks in the market. If done with good judgment, this investment can help you recover the losses incurred till now and even make a profit!

The memory of the pandemic is still fresh. Still, if we recount that financial year, we would invariably notice that the market crashed in March 2020. However, the situation was nothing like that in December 2019 or even January 2020. This case is a classic one where you can use tax loss harvesting to register losses owing to the pandemic and minimise your losses. When the situation is rife, use these proceeds to buy safer stocks based on thorough market research.

Before you implement tax loss harvesting, make sure you:

1. Do your calculations well and account for every expense you have made before deciding on the net profit value.
2. File your taxes under the appropriate category of ITR. On this note, do not forget that you cannot file your capital gains and losses under ITR 4, since it does not require all listed property under it to be audited.