'Tis the season for tax-loss selling.
Most investors are sitting on fewer losing stocks compared with this time last year, thanks to the market's mega-bounce. But there are still some train wrecks out there. Yellow Pages Income Fund or Manulife Financial anyone?
Nobody likes losing money. But there are ways to put those losses to work.
WHAT IS TAX-LOSS SELLING? When you sell a stock in a non-registered account and trigger a capital loss, you can use that loss to offset capital gains and reduce your tax bill. Losses must first be applied against capital gains in the current year; any remaining losses can be carried back up to three years and carried forward indefinitely.
Example: Say you bought 100 shares of Manulife a few years ago at $40 a share and sold them this year at $20 (ouch). You now have a capital loss of $20 a share or $2,000 (plus brokerage fees), which you can use to reduce capital gains from stocks, bonds, mutual funds, exchange-traded funds or investment real estate you sold this year.
Got a question on tax-loss selling? Ask Vance LeCocq, partner, tax services at Grant Thornton in our live online discussion on Monday, December 14 at noon (ET). Send your question in advance by clicking here.
If you have no capital gains this year, the entire loss can be carried back to offset gains in 2006, 2007 or 2008, or carried forward to a year when you do have capital gains. The taxable portion of a capital gain is 50 per cent of the actual gain.
WHAT'S THE DEADLINE? In Canada, the last day for tax-loss selling in 2009 is Dec. 24. That's because it takes three full business days for a trade to settle, and Canadian stock markets are closed on Friday, Dec. 25 and Monday, Dec. 28 (in lieu of Boxing Day). Remember that markets close at 1 p.m. on Dec. 24. In the United States, the last trading day for settlement in 2009 is Dec. 28.
If you miss the deadline, your capital loss will be recorded in 2010. Therefore, you won't be able to use it to offset capital gains in 2009, unless you wait a year and carry the loss back, in accordance with the conditions stated above.
DOS AND DON'TS If you sell a stock, be sure to wait at least 30 calendar days before you buy it back. Otherwise, the Canada Revenue Agency will deny the loss. The "superficial loss rule" is designed to prevent investors from selling a stock for tax reasons and quickly repurchasing it. Similarly, the loss will be denied if your spouse or common-law partner buys the security back within 30 days.
In such cases, the loss is added to the cost base of the security for the person who repurchased it, so there still may be an opportunity to realize the loss for tax purposes at a later date, says Jamie Golombek, managing director of estate and tax planning with CIBC Private Wealth Management.
Another no-no is to transfer a losing stock into a registered retirement savings plan or other registered account. "There is a loss denied if you transfer any stock or mutual fund or security into your RRSP or registered retirement income fund or into a tax-free savings account," he says. "That loss is just permanently denied. It's gone forever. It's a bad idea."
It's also a bad idea to let tax considerations drive your investment decisions, he says.
"I hate to see someone sell something because it's down just to get the tax loss, and then realize that from an investment perspective maybe they should have held onto it a little longer and maybe it would have recovered," he says.
For example, people who dumped a lot of stocks for tax reasons at the end of 2008 were probably kicking themselves as the market came roaring back in 2009, unless they had repurchased their shares.
AN OPPORTUNITY? Kevin Greenard, a wealth adviser with Greenard Group at ScotiaMcLeod in Victoria, says tax-loss selling occasionally creates buying opportunities when a lot of people are dumping a stock. That's why he likes to get most of his clients' tax-loss selling out of the way by early September, so he can focus on looking for bargains when the last-minute rush hits.
"I think everyone is looking at the losers this year. If they are going to come under additional pressure this month, then if they're good value and if you like them longer term, it might be an opportunity to pick up some good names," he says.
Tax laws are complex, and some strategies are beyond the scope of this article. So it's wise to consult a professional about your own situation.
John Heinzl