How tax-loss harvesting works

Tax-loss harvesting means closing a position in a taxable account for less than its cost basis so the realised loss can be used on the return. The first number is arithmetic: basis minus proceeds when proceeds are lower.

On a $10,000 basis sold for $6,000, the loss is $4,000. Sold for $7,000, the loss is $3,000. Nothing about the market's later path is in those two lines. They are sale results.

How investments are taxed is the wider schedule: ordinary income, long-term gains, and the way losses net against them. This page owns one realised loss and the tax it displaces at a stated rate.

A loss is useful because it can cancel a gain that would have been taxed, or, after gains are exhausted, a limited amount of ordinary income. The teaching identity is

$$\text{tax saved} = \text{loss} \times r$$

where $r$ is the rate that would have applied to the income the loss displaces. At 22 percent, a $4,000 loss saves $880. A $3,000 loss saves $660.

That 22 percent is an input, not a claim about every filer. A long-term gain might have met a lower statutory rate. Ordinary income might have sat in a different band. Put the rate that the cancelled dollars would actually have paid.

The tax value can arrive now or later. If the loss cannot be used in the current return, carryforward rules determine when it meets taxable gains or income.

Under United States wash-sale rules, buying a substantially identical security within 30 days before or 30 days after a loss sale can disallow the current loss. Looking only at purchases after the sale misses the purchases in the earlier half of the window.

For an ordinary replacement in a taxable account, the disallowed loss is generally added to the replacement holding's basis and the old holding period carries over. The deduction is postponed until a later sale that does not begin another wash sale. The economic loss remains even when its tax use moves to a later return.

The account type matters before any rate. A loss inside a tax-deferred wrapper does not appear on this year's return as a harvested capital loss. A capital gain realised in a taxable account is the usual first use of an allowed loss. Only the net loss left after gain netting reaches the capped ordinary-income bucket.

The two teaching sales are a $10,000 basis at $6,000 and at $7,000, both at 22 percent. They show how proceeds change the loss and how the same rate scales the tax saved. The applicable rate, loss character, available gains, carryforwards, account type, and replacement purchases determine an actual result.

A replacement can change market exposure and future basis even when the immediate tax arithmetic is correct. This is educational material, not financial advice.