Here is a quick reminder of how investment proceeds are taxed. If you hold an investment over a year and sell, this is considered long term capital gain and the taxes owed are around 20% of the GAIN. If the investment was held for less than a year, the GAIN is considered short term and is taxed at your ordinary income level. The key word here is gain. You are only taxed on the gain you receive from the sale of the investment. If you invest $100 dollars into a stock and sell it two years later when it is trading at $120, you only pay capital gains tax on the $20 price increase. Same thing goes for short term capital gains, if you hold the security for less than a year, you’ll pay ordinary income tax on the $20 profit.
Does this mean sell everything with a gain? No, but sometimes paying taxes on certain investments can be a good thing. For one, it means that you’re making money. Typically, when we speak with clients about selling certain investments that have greatly appreciated, it isn’t always to take their profit because the stock is going to go down, but more in terms to get the client back to an appropriate asset allocation and risk tolerance. All too often we see clients that have 50, 60, 70 % of their retirement savings invested in their company stock. Unfortunately, March was a great reminder that stocks can go down. If the majority of a client’s assets are invested in one stock and they are unwilling to budge with a position due to tax considerations, you can see where the potential pitfalls are. Our practice saw a lot of people who didn’t want to sell their internet stocks in 2000 for “tax reasons”, REITS in 2007 or Boeing and Oil stocks this year. Now they wish they did.
In closing, stick to your plan. Factor taxes into your thoughts, but don’t let taxes deter you from taking profits and rebalancing to the asset allocation you and your financial advisor have pre-determined. Hope this helps and as always don’t hesitate to reach out if you need anything.
Disclaimer: This article is for illustrative purposes of investment and financial concepts. Neither Frank Vance nor Commonwealth Financial provides tax advice. Consult your own tax preparer or CPA for individual tax advice.