What Advisors Get Wrong About Tax-Loss Harvesting

Tax-loss harvesting is an opportunity to turn investment losses into tax benefits, and it’s a tactic you may recommend to clients who are interested in preserving wealth. Like any tax-planning strategy, tax-loss harvesting requires nuance and an understanding of how to optimize client portfolios for maximum benefits. Recognizing potential shortcomings can help advisors execute tax-loss harvesting strategies more effectively.

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Understanding Tax-Loss Harvesting in Client Portfolios

Tax-loss harvesting is the practice of selling an investment at a loss to offset investment gains. For example, a client who loses $10,000 on one investment may sell it and “harvest” the loss to offset $10,000 in gains from another stock they own. When losses exceed gains, investors can deduct up to $3,000 in losses from their ordinary income for the year.

The IRS regulates tax-loss harvesting closely to prevent investors (or their advisors) from taking advantage of this tax strategy. Specifically, the wash-sale rule prohibits the purchase of a “substantially identical” investment or security during a 61-day window that covers the 30 days before it’s purchased, the day it’s sold and the 30 days that follow the sale. Investors who violate this rule forfeit their right to deduct the loss on their tax return.

Financial advisors who offer tax advice may encourage loss harvesting as a strategy to minimize clients’ capital gains tax bill. Additionally, tax-loss harvesting is an opportunity to rebalance client portfolios to bring their asset allocation back in alignment if they’ve become overweighted in a particular sector. Advisors who leverage loss harvesting to produce better after-tax returns for their clients may gain their long-term loyalty and receive more referrals, both of which can promote a more sustainable business over time.

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Common Tax-Loss Harvesting Mistakes Advisors Make

Advisors are not perfect, and while they may approach tax-loss harvesting with the best intentions, mistakes can sometimes be made. Knowing where advisors tend to go wrong with loss harvesting can help you avoid repeating similar missteps.

Mistake #1: Assuming All Gains or Losses Are Equal

Tax-loss harvesting has limits, which advisors must keep front of mind when managing client portfolios. Capital losses, which are losses from the sale of appreciated assets, can be used to offset an equal amount of capital gains.

Once a taxpayer runs out of capital gains, however, the $3,000 limit applies to any additional losses, and the focus shifts to ordinary income. Ordinary income includes wages, rental and business income a client receives during the year.

Any additional capital losses can be carried forward to future years to either offset future capital gains or ordinary income, up to the $3,000 cap. Advisors who are unaware of these limitations or fail to understand when they apply run the risk of overstating the benefits of tax-loss harvesting to clients. That type of misunderstanding could damage the advisor-client relationship if the client expects one outcome and receives another.

Mistake #2: Failing to Think Long-Term

Advisors may communicate the limitations on the amount of losses that can be recognized in a particular year, but overlook a key point. While loss harvesting can be beneficial, it’s not permanent and can be viewed as a delaying tactic at best.

To illustrate this, assume a client purchases a single share of Fund A for $10,000. Two years later, the share is valued at $5,000. The client’s advisor recommends selling the fund at a loss to offset capital gains. Next, the $5,000 is used to buy a single share of Fund B.

Assume that this does not violate the wash-sale rule and that the taxpayer offsets the $5,000 in capital gains that would have otherwise been taxed at 20%. Total savings are $1,000 in that year. Fast-forward two years. Now, Fund A and Fund B are both valued at $15,000.

When the taxpayer sells her share of Fund B, she recognizes a $10,000 dollar gain that is taxed at 20% creating a tax liability of $2,000. Instead, if the taxpayer had simply kept her share of Fund A, she would have only recognized a gain of $5,000. That’s because she would have kept the original basis of $10,000.

That would have created a tax liability of $1,000 instead of $2,000. The net impact is the same, but only if tax rates are the exact same in both years. That means you are assuming the taxpayer will not have a higher income in the future and that Congress will not increase tax rates in the future.

No one can predict the future. But before recommending tax-loss harvesting, you should ask your clients whether they are concerned tax rates will go up. This resetting of the basis in their investments is a key piece that must be communicated to taxpayers when performing tax-loss harvesting.

Mistake #3: Overlooking How Tax-Loss Harvesting Emphasizes Losses

Another downside to tax-loss harvesting is that it highlights the exact outcome clients are hoping to avoid, which is investment losses. In contrast, capital-gains harvesting, or strategically selling investments at a gain, emphasizes the wins in your clients’ portfolios. It has the potential to create more permanent tax savings.

Changing the timing of recognizing income, however, always creates the potential for a negative outcome depending on what tax rates do in the future. If you help a client intentionally recognize a gain now, and tax rates go down in the future or the investment loses value in the future, you have the potential to create a similar situation to what was described above for tax-loss harvesting.

Avoid Wash Sale Rule Violations

There are no wash-sale rules on selling investments at a gain. This means that Fund A can be sold for a gain, then immediately repurchased. This resets the basis of the investment higher and reduces future taxable gains if the investment continues to increase in value.

Potential for 0% Capital Gains Tax

With proper planning and the right client situation, long-term capital gains may be harvested at a 0% federal tax rate. In 2026, the 0% long-term capital gains bracket for married couples filing jointly extends to $98,900 of taxable income. When combined with the $32,200 standard deduction, a married couple with no other taxable income could potentially recognize up to $131,100 of long-term capital gains at the 0% rate. Other income would reduce the amount of gain that can fit into the 0% bracket.

Lower Future Taxes

When there’s a higher cost basis in play, selling assets later on can result in smaller taxable gains. That could prove advantageous to clients who expect to be in a higher tax bracket later.

Mistake #4: Waiting to Harvest Losses

What advisors get wrong about tax-loss harvesting.

Timing is important for tax-loss harvesting, beyond the wash-sale rule. It’s not an uncommon practice for advisors to wait until the end of the year to identify opportunities to harvest losses, but you could be missing your chance to make optimal trades in the meantime.

No one can time the market perfectly, but it does make sense to approach tax-loss harvesting in a way that’s conscious of timing. That means deploying loss harvesting when it makes the most sense based on what the market is moving, rather than waiting until the end of the year. An advisor who is attuned to market movements and understands what objectives they’re hoping to accomplish for their clients may be in a better position to harvest losses when the best opportunities to do so present themselves.

Mistake #5: Using a One-Size-Fits-All Approach

Tax loss harvesting, by nature, is more effective and valuable for some clients than others. If you’re using a cookie-cutter approach and applying the same tactics to every client portfolio, you could be doing more harm than good for a portfion of the investors you serve. For example, a client who is already in a lower tax bracket may not gain much at all from harvesting losses.

Effective loss harvesting requires an understanding of each client’s goals, risk tolerance and tax picture. Conducting annual client reviews can offer insight into all three, which can help you determine whether tax loss harvesting is appropriate and how to apply it.

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Bottom Line

Taxes should be just one of the factors considered for financial planning recommendations. They should almost never be the primary consideration. Whether considering tax-loss harvesting, capital-gains harvesting or any other tax-reduction strategy, great advisors consider clients’ overall situations and goals before diving into the taxes. Lead with the client’s bigger goals, then make sure the tax impact is determined. Clients should pay every dollar they owe. But pay attention to this important reminder: Don’t tip the IRS.

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If you’d like to get more tax planning clients, a center of influence who is a CPA could become a valuable source of referrals. Centers of influence are professional contacts with whom you trade referrals; for example, a CPA sends one of their clients to you, and you send one of your clients to them. If you’re not utilizing this networking tool yet, consider how you could begin building bridges with professionals in your local community.

Steven Jarvis, CPA, is a columnist for SmartAsset and has been compensated for this article. Taxpayer resources from the author can be found at retirementtaxpodcast.com. Financial Advisor resources from the author are available at retirementtaxservices.com.