Tax-Loss Harvesting: How to Use Stock Losses to Reduce Your Taxes 

What Is Tax-Loss Harvesting and How Does It Work?

Tax-loss harvesting is an investment strategy that helps reduce taxes by using capital losses to offset capital gains. In a nutshell, tax-loss harvesting means selling stocks at a loss for taxes and then claiming the benefits to offset any capital gains you’ve earned in the same tax period.

This works because reported investment losses directly reduce taxable capital gains.

To implement this strategy, taxpayers should identify unrealized losses, sell underperforming investments, and use the realized losses to offset gains on their next tax return.

To determine whether a sale resulted in a capital gain or loss, you’ll need to calculate the asset’s cost basis, which is the purchase price plus any fees or commission costs. If you sold the stock for more than its cost basis, you’ve realized a capital gain. If the stock was sold at a lower price, you’ve realized a capital loss.

If you do see that you’ve earned capital gains over the past tax year, then it’s important to understand that you will get taxed on that investment income. A solid tax-loss harvesting strategy, however, can help reduce that tax liability by reducing the overall amount of investment income. This income will be reduced based on your capital losses.

Next Step: One of the best ways to stay on top of your stock investments, capital gains, and capital losses is to maintain solid records. Consider downloading our Stock Sale Tax Checklist now to help you keep everything organized this tax year. You can use this checklist towards the end of the tax year to determine if you should sell any stock with unrealized capital losses to implement an effective tax-loss harvesting strategy.

How Capital Losses Offset Capital Gains (Step-by-Step)

Once you’ve determined the total amount of your capital gains and losses, you can offset realized capital gains by ensuring all your losses are also realized through the sale of the asset. When you report your realized gains and losses on Schedule D and Form 8949, you’ll rely on information from your Form 1099-B, which details your stock sales and brokerage activity.

Here’s how the tax savings work:

• First, the capital losses offset any capital gains for the year
• Next, any remaining capital losses can be deducted up to $3,000 in ordinary income
• Finally, any additional capital losses can be carried over into the next tax year

You will reap these benefits as long as you ensure all gains and losses are realized through a sale and that all transactions are accurately reported on your returns.

Next Step: Using your capital gains and losses together to maximize your tax return is a sound investment strategy. Whether you are brand new at investing or you’d just like a fresh overview of the process, you’d benefit from reading through our First-Time Investor Tax Guide, which provides everything you need to know to be a successful investor this next tax year.

Short-Term vs. Long-Term Capital Loss Matching

When assets are held for less than a year before sale, realized profits are treated as short-term capital gains, and losses as short-term capital losses. When assets are held for more than a year and sold for a profit, they generate long-term capital gains.

With loss harvesting, these realized losses are first categorized as either long-term or short-term. From there, they will offset matching gains.

For instance, long-term capital losses offset long-term capital gains. Short-term losses offset short-term gains. This matching process is important because different capital gains tax rates apply to short- and long-term gains. That said, once the gains and losses are matched appropriately, any remaining excess can be used to offset the opposite type of gain.

So What: Ensuring that your losses get appropriately matched is important since different tax rates apply to short- and long-term gains. Long-term gains are usually taxed at lower, preferential rates, whereas short-term gains are usually taxed at ordinary income rates.

Understanding the $3,000 Capital Loss Deduction Limit

While taxpayers can use capital losses to offset capital gains, some taxpayers may have more capital losses than capital gains. When that happens, there is another way to use those losses to maximize your return.

A solid tax loss harvesting strategy should consider using capital losses not only to offset gains but also to offset ordinary income. When there are no capital gains to offset (or not enough), then the remainder of the capital losses can be used to reduce the amount of your ordinary income. For the 2025 tax year, the maximum net capital loss you can deduct against ordinary income is $3,000 ($1,500 if Married Filing Separately). Once you’ve reduced your ordinary income by that $3,000 cap, you’ve maximized your capital loss usage for the year.

That doesn’t mean you can’t still utilize any additional capital losses you sustained throughout the tax year, though. As discussed above, capital losses first offset gains. When losses exceed gains, the $3,000 ordinary income deduction comes into play.

Source: IRS Pub. 550

Next Step: Taxpayers should report investment losses used to offset capital gains and up to $3,000 of ordinary income on IRS Form 8949.

How to Carry Forward Unused Capital Losses

When capital losses exceed capital gains and the $3,000 ordinary income offset, those losses can be carried forward indefinitely to future tax years until fully utilized.

These losses retain their original status as either short-term or long-term. In years when losses are carried forward, capital losses will first be applied to offset capital gains of the same classification (long-term or short-term), then to offset capital gains of the opposite classification. If any remainder remains, that loss will be applied to up to $3,000 of ordinary income.

If losses still exceed that amount, they will be carried over to the next year.

So What?: Knowing that capital losses can be leveraged indefinitely until their tax benefits are completely utilized can help you develop a solid, long-term tax loss harvesting strategy. That said, it’s a good idea to keep meticulous records of your losses and accurately report them each year on Form 8949.

Wash Sale Rule: What to Know Before Harvesting Losses

One important thing you need to consider as part of a tax loss harvesting strategy is the wash sale rule. Per the Internal Revenue Code, the wash sale rule applies when a taxpayer sells a stock at a loss and then repurchases the same or a substantially identical security within the 61-day wash-sale window, which includes 30 days before and 30 days after the sale date. When the wash sale rule is triggered, the loss is disallowed. Instead of being able to claim the loss on the next return, you’ll only be able to adjust the cost basis of the new investment.

Source: IRS Pub. 550, Wash Sales

Next Step: To avoid the wash sale rule, use our Stock Sale Tax Checklist to track all your purchases and sales. When you go to make a sale, check your checklist to see whether any of your sales may fall within the 61-day wash-sale window. If so, do not sell the stock until the 61-day period has ended.

When Tax-Loss Harvesting Makes Sense

Harvesting tax losses is a valuable strategy in many situations. This strategy is typically most effective when you have realized capital gains, since losses can directly offset those gains under IRS rules.

For another, being in a high-income tax bracket is another time when tax-loss harvesting makes sense. That’s because the higher your tax rate is, the more valuable the offset gains become overall.

Harvesting your losses also makes a lot of sense when the economy is undergoing a downturn, and you’ve experienced significant losses over the last tax year. For that reason, investors sometimes wait until the end of the year to assess their positions and harvest losses to maximize their tax strategies.

Year-End Harvesting Window

Most investors execute tax-loss harvesting between late October and December 31, after they have a clear picture of the year's realized gains.

The deadline: All harvest transactions must settle by December 31 to count for the current tax year. For most stocks, that means executing the trade by the second-to-last business day of the year (T+1 settlement, as of May 2024).

Practical workflow:

1. Tally your year-to-date realized gains and losses
2. Identify positions trading below your cost basis
3. Decide which losses to realize based on tax benefit and portfolio strategy
4. Execute sales — and avoid repurchasing the same security within 30 days
5. Document everything for your tax return

Important nuance: Don't let the tax tail wag the investment dog. Only harvest losses on positions you'd be willing to exit anyway, or that you can replace with non-substantially-identical holdings (a different fund tracking a similar index, for example).

Tax-Loss Harvesting and the 3.8% NIIT

For high earners, tax-loss harvesting has a double benefit. Capital losses reduce both:

1. Ordinary capital gains tax (15% or 20% for most brackets)
2. 3.8% Net Investment Income Tax (when MAGI exceeds 200K single / 250K MFJ)

A taxpayer in the top long-term capital gains bracket effectively saves 23.8% on each dollar of harvested loss against capital gains. That's a stronger incentive than the 15% or 20% headline rates suggest.

See our Capital Gains Tax on Stocks guide for full NIIT mechanics.

Next Step: Are you looking to learn more about investing, capital gains, and capital losses? Check out our First-Time Investor Tax Guide to get more details.

Utilizing a Tax-Loss Harvesting Strategy

Every investor who earns capital gains and makes regular investments should consider utilizing a tax-loss harvesting strategy. Since losses can offset gains and even ordinary income, it’s very beneficial to take advantage of them when possible.

One of the best ways to stay ahead with your tax-loss harvesting strategy is to track your investments. Creating checklists to record your investments’ cost basis amounts, sale amounts, and more can be invaluable at tax time.

To get started, consider downloading our Stock Sale Tax Checklist. You should also stay up-to-date with all the latest tax investment tips and strategies by browsing through our website regularly.

This article is for educational purposes only and does not constitute tax, legal, or financial advice. Tax laws and dollar thresholds referenced are current as of the last reviewed date shown above and may change. For guidance on your specific situation, consult a qualified tax professional.