All Clear for Tax-Selling

With the re-election of President Bush, the tax breaks on capital gains are safe for the foreseeable future.

That means the annual year-end ritual of tax-loss "harvesting," or selling off selected losses in an investment portfolio and using the losses to offset gains, can proceed as usual.

Had John Kerry, with his pledge to reduce taxes on higher income taxpayers, been the victor instead, investors owning stocks and mutual funds with large embedded capital gains might have been scared into wholesale selling this year while the tax breaks were still good.

"We can probably assume the capital gains rates will stay the same," says Bob Scharin, editor of RIA's Practical Tax Strategies, a journal for tax professionals. "Bush wants to make his tax cuts permanent."

In 2003, Bush promoted the tax bill that reduced the tax on long-term capital gains, those held for more than one year, from 20% to 15% for those in the higher tax brackets and from 10% to 5% for those in the lower brackets. In 2008, the 5% rate drops to 0%, and in 2009, all capital gains rates revert to their pre-2003 levels unless new legislation is passed.

Despite warnings that the country cannot afford additional tax cuts because of the huge federal deficit, Bush has vowed to make his tax reductions on capital gains, dividends and other income permanent. That, no doubt, contributed to the market's postelection rally.

Rally or not, many investors usually hold a stock or mutual fund in their portfolio that is faring poorly.

The tax code provides a consolation prize of sorts to investors who own stocks like Intel (INTC Quote), down 30% over the past year as part of a semiconductor slump, or Marsh & McLennan (MMC Quote), whose shares recently plummeted from $45 to $23 since the company became the target of the New York attorney general's insurance kickback investigation.

It is a tax loss that can be used to eliminate capital gains taxes on the sale of other securities. It can also be employed to wipe away certain gains on real estate and to offset as much as $3,000 of ordinary income per tax year. And, the loss can be carried forward until it is used up.

"We always do tax-loss planning," says Peter Traphagen, CPA and personal financial specialist with Traphagen Advisors, LLC in Oradell, N.J. "There's no reason not to take a tax loss."