AssetBuilder Inc. Registered Investment Advisor - Simple Investing. Smart Future.

Scott,

I have a well balanced portfolio in stock ETF's in taxable accounts and bond index funds in tax deferred accounts. They meet my long term asset allocation goals. I am modestly part retired and living off my taxable accounts at a withdrawel rate of 3% of my overall portfolio. I do earn small amounts of W2 income and 1099 income working part time. Full SS benefits are still a little ways away for me. I have been "fortunate" to harvest some losses (70K) selling some ETF's and purchasing some equivalent ETF's from other companies. These are short term losses.

1) What is the best way to utilize these losses? (I think I have to use it first against short term gains, then long term gains, then limited to $3000 which can be applied against ordinary income. The rest gets to be carried forward to the next tax year and applied again based on the above)

2) If I convert my traditional IRA to a ROTH IRA could the losses be used to offset the taxes due on conversion? (I suspect the conversion is treated as income so it would be limited to the $3000 above)

3) Do you think selling Vanguard index 500 and buying ishares S&P 500 avoids the wash sale? (I suspect that it meets the letter of the law but not the intent)

Any other ideas? Thanks in advance for yor response. I respect your opinion.

Can you share some guidelines on

Woody,

Yes, your short term losses would be applied against short term gains first, then long term gains (much lower advantage due to lower tax rate) and then to ordinary income up to $3,000.

Your Roth conversion idea is very interesting and probably a good avenue. In a conversion, your selected IRA assets become taxable income and create an ordinary income tax liability. Your short term losses could be used to offset that income, making it an essentially tax-free transaction.

ETFs are likely to being a lot more attention to wash sales because so many nearly identical exchanges are available. The change you mention, for instance, certainly presses the "letter of the law." I would be nervous about doing it.

Scott

When does it make sense to sell and take the loss in a taxable account and either reinvest in similar funds or buy CDs and wait for the market to achieve some stability?  My husband says we are buy-and-hold people, but some upside to seeing your account shrink by 10-20% could come in offsetting taxes.

Harvesting losses to offset gains is a good idea in a taxable account. And I think reinvesting in a very short time period is a better idea than moving to CDs unless your overall risk tolerance has changed. (Lot's of people are reassessing their risk tolerance these days!)

The real issue, as above, is avoiding "wash" sales. I think you could easily be bagged for a wash sale if you sell one S&P 500 Index fund and buy one from another vendor, such as sell Vanguard and buy iShares. You could, however, sell and S&P 500 index and replace it with a Russell 1000 or Russell 3000 index fund since both different portfolios even though there is significant overlap.

Scott

Scott,

Could the tax loss harvesting I described above be used offset the taxes due by cashing in I bonds?  The  I bonds have a real return coupon of around 1.5%. Half were purchased in early 2003 so there is no interest penalty cashing in. Half were purchased in early 2006 so there is a 3 month penalty. I am then thinking of purchasing TIPS in the 10 year maturity range which have a real return currently quoted around 3%. These would be held in a tax deferred account or possibly the Roth conversion I discussed above. It seems like a good deal if the taxes can be offset. What do you think?

I have read that TIPS above 3% are generally a good deal. When purchasing TIPS on the secondary market it is a little difficult for me to make a direct comparison of the quoted yield plus anticipated inflation rate to that of a standard treasury. It seems like there are a lot of moving parts like the inflation factor, discount or premium, accrued interest. Is there an easy way you could explain or direct me to?

I rebalance once per year in January to a 10% cash, 45% bond, 45% stock ratio. With the current decline in equity prices my ratios are out of whack. What do you think about rebalancing now to take advantage of the “low” prices? I know it sounds like market timing but could an argument also be made that it is also maintaining my designated asset allocation?

Woody,

Stock prices (valuations) are low now. They can always go lower, of course, and may but yes, this would be a good time to rebalance. Boston investment manager Jeremy Grantham recently told clients that equity prices were at 1987 levels. You can read his comments here:

http://www.gmo.com/websitecontent/JGLetter_3Q08.pdf

Trading your low coupon I Savings Bonds for higher coupon TIPS in a tax deferred account is a very good idea. According to the Bloomberg website, http://www.bloomberg.com/markets/rates/index.html, TIPS are now earning about 270 basis points over inflation.

Remember, the Ibbotson data tells us that the long-term real return on intermediate term government bonds is about 3.00 percent. So anytime you can get near to a 3.00 percent premium over inflation with TIPS you've got a good deal--- you've got the 3 percent premium locked-in AND protection from inflation. Bond investors would have loved to have that during the 70's!

Scott