No one likes to see their investments plummet in value, but it’s going to happen many times over your lifetime. If you’ve got a strategy for tax loss selling, you can make the best of the situation by harvesting capital losses that can be used to offset capital gains. That gives you an opportunity to reduce or defer taxes in the future, or even recover taxes you paid in past.
In a blog post on September 26, I noted that Canadian equities had fallen by about 5% since the beginning of the month, which could have triggered one such opportunity. (A useful rule of thumb, courtesy of Larry Swedroe, says a security should be sold when the loss is at least 5% and at least $5,000.) If you had recently made a large purchase of the Vanguard FTSE Canada All Cap (VCN), for example, you might have sold it that week to realize a capital loss and then repurchased the iShares Core S&P/TSX Capped Composite (XIC) or a comparable fund. As long as the replacement ETF tracks a different index you’ll maintain your exposure to Canadian stocks while also steering clear of the superficial loss rule.
I’ve written about this idea several times, but selling is only half the story. Remember, you can’t repurchase the original ETF for at least 30 days, and a lot of things can happen during that time. If markets recover swiftly, your replacement ETF will rise in value. So when you switch back to the original ETF you might end up locking in a capital gain that offsets your harvested loss, making the whole exercise an expensive waste of time.
Alternatively, markets could continue to fall over the next 30 days and allow you to harvest another loss when you switch back to the original ETF. As it turns out, that’s exactly what would have happened had you replaced VCN with XIC on the day of my original post.
Deeper down the rabbit hole
A trade on September 26 would have settled on October 1 (three business days later). You would have then needed to hold the replacement ETF until October 28, since a sale on that date would have settled October 31. (The 30 days between settlement dates would have allow you to avoid the superficial loss rule.) Here’s how the net asset value for both ETFs changed between the transaction dates:
Date | VCN | XIC |
---|---|---|
September 26 | $30.25 | $23.74 |
October 28 | $29.43 | $23.15 |
Change | –2.70% | –2.48% |
As the Canadian equity market continued to fall in October, your opportunity for tax loss harvesting would have increased. Selling XIC on October 28 would have triggered another capital loss equivalent to about 2.5% of the holding. So if you started September with a $100,000 holding and locked in a $5,000 loss near the end of that month, you would have emerged 30 days later with over $7,000 in capital losses.
Of course, it’s not all wine and roses: your Canadian equity holding is still down more than 7% in two months. But that would have been true even if you had done nothing. As long as the markets move higher in the future—and we wouldn’t be investing if we didn’t expect that—you’ll be far better off if you were able to realize that loss before the recovery.
This just in from Justin
If you’d like to see a real-world example of a tax loss harvesting trade, visit Canadian Portfolio Manager, the brand new blog created by Justin Bender, my friend and colleague at PWL Capital. Justin harvested some losses for our clients by switching from one Dimensional fund to another in late September and then switching back last week. By doing so he was able to realize losses between $8,000 and $11,000 for the clients.
Justin’s new blog will feature insights into how he manages portfolios, and it includes a host of free resources including white papers, calculators, and ETF model portfolios. In the future, Justin and I will be collaborating on many articles and tools to help investors make better decisions. We’ve already got a long list of ideas, so stay tuned.
Fantastic post Dan. Two follow up questions:
– You mention “when you switch back to the original ETF”. It seems to me that it may not be worth incurring the cost, hassle, and cognitive overhead to switch back to the original ETF in many cases. Aren’t VCN and XIC similar enough in terms of market exposure, cost, etc that it makes sense to simply remain with the new choice until the next harvesting opportunity rolls around?
– Perhaps a stupid question, but assuming an investor had followed the steps above, and was able to crystallize the $7,000 loss: does that therefore mean the investor is entitled to a tax-free capital gain worth $7000 or $3500 in future? And that option persists indefinitely, and is not time-limited?
Thanks!
I recently did some VCN purchases when their value was going higher. After my purchase, their value has fell considerably. I am still sitting at more than 5% loss (that amounts close to $2500). For now I am just sitting and waiting, as noted in the earlier post, a loss less than $5000 might not have been great for tax loss sheltering.
Though I am still not able to grab the whole idea of tax loss sheltering that how is it not a tax loss deferral? Wouldn’t I be paying more taxes in the future if the value of the similar stock goes up again in the future and I am cashing it out?
@Dave: You can certainly consider just hanging on to the replacement ETF in this case, especially if the new ETF has appreciated in price. As you point out, the differences between VCN and XIC are pretty negligible. However, in other asset classes this might not be the case and you might want to switch back to the original after the 30 days.
To answer your second question (which is not at all stupid!), if a capital losses cannot be used in the current year, then it can be carried back up to three years and carried forward indefinitely. So harvesting a $7,000 loss today will allow you to offset a $7,000 gain (i.e. a $3,500 taxable gain) any time in the future.
@Bud: You’re right that tax loss selling is better thought of as tax deferral rather than tax avoidance, although in some cases it can indeed reduce or eliminate taxes. For example, you may be able to defer gains until a year you are in a lower tax bracket (such as in retirement). There’s really no way you would end up paying more tax after harvesting a loss: you might pay the same amount, but even then, the deferral offers some advantage.
Can gains be carried forward? For instance selling now to buy something big like a house or to simply take a profit will lead to tax on the gain now. If there is subsequently a loss on something else down the road can that be used to adjust the tax paid on the current sale?
@Al: I love an optimist, but alas, no, you cannot realize a capital gain and carry it forward. You need to pay tax on it the year it is realized. However, if you do eventually harvest a loss in the subsequent three years you can file a request to carry it back:
http://www.cra-arc.gc.ca/E/pbg/tf/t1a/README.html
As a general rule then, you don’t advise tax-loss harvesting in smaller accounts? If we consider a 20% allocation to VCN, as in your model portfolio, then you’d need a $500k portfolio before both the $5000 and 5% criteria would both be satisfied.
@Tyler: It’s really an individual decision. I would say you can make a good case to harvest a smaller loss if you have realized a gain in the current year and you’re in a relatively high tax bracket. But I would do the math and see whether it’s worth it after factoring in commissions, bid-ask spreads and the possibility that your replacement ETF will not perform in line with the original fund.
Say, for example, you are in a 30% tax bracket. A $1,000 capital gain is effectively taxed at 15%, or $150. Is it worth making two trades to harvest an offsetting $1,000 loss? Probably not.
Great article, really makes you think. However, this is all assuming that you purchased it at the height of its 52-week high, otherwise the sale would trigger a capital gain. Being a couch potato investor, I’ve held onto my ETF’s for a long time and therefore they’ve all gone up from my ACB. For myself and others to take advantage of Tax Loss Harvesting the share price would have to drop below the ACB.
On a side note, do you think it’s ever a good idea to switch asset allocations during a correction? For example, when equities dropped 10% move from 25% bonds to 10%, adding 5% to each Canadian, US, and Ex-North American equities? Thanks all knowledgeable Couch Potato!
@AJ: Yes, to take advantage of this opportunity you would have had to have bought into Canadian equities around the beginning of September. The examples in Justin’s post are real clients who came to us at that time and implemented their new portfolios just before the correction. Good luck or bad luck, depending on your perception. :)
I would not switch asset allocations according to market conditions. It’s very difficult to do this with consistency and discipline and it encourages investors to become market timers. Better to use corrections to rebalance back to your long-term targets.
Another great article. Thanks CCP.
My questions regarding superficial losses are when you make one, is the amount of securities held relevant?
If you sell a security at a loss, but are in a DRIP program, would repurchasing (through DRIP) shares of that security trigger superficial loss? Similarly, if you use mutual funds to dollar cost average during the year, could you throw away your ability to claim a loss?
Capital gains – you sell 250 shares of 1000 – you must report gains on 250 shares.
Capital loss – you sell 250 shares of 1000 – you cannot claim loss on 250. Can you carry forward loss from the 250, and claim loss once you sell the other 750 if you sell those for a loss?
Capital loss – you sell 300 shares, but due to DRIP repurchase 1 share. As you own that security, can you report the loss? Similarly with dollar cost averaging – some have these automated either through RRSP or as non registered employee benefit.
Thanks for the great info.
Adam
@Adam: Excellent questions. The idea of partial superficial losses is explained in our white paper on Tax Loss Selling:
https://canadiancouchpotato.com/2013/10/21/tax-loss-selling-with-canadian-etfs/
DRIPs can indeed set you up for partial superficial losses. This is one of several reasons we advise against using DRIPs in taxable accounts (the other main reason is that tracking your ACB becomes more complicated). In the white paper we give an example of how you can trigger a partial superficial loss even if your spouse has a DRIP on the same ETF you just sold.
And yes, if you are dollar cost averaging throughout the year you can also trigger a partial superficial loss.
However, it’s important to understand that you do not need to sell your entire holding to claim a loss. if you sell 250 of 1,000 shares, that’s fine: you are permitted to continue holding the remaining 750 shares. You just cannot but any more for at least 30 days. And you must also have purchased the 1,000 shares at least 30 days before you sell the 250: remember the superficial loss window is actually 61 days, since it includes the 30 days before and after the sale.
More details in the paper.
Hello,
To be able to take advantage of this, wouldn’t it make sense to change what ETF’s you buy?
For example, if VCN is a core holding and you have $500k in it, bought over many years with a low adjusted cost base (ACB).
You have another $50k to invest in Canadian market.
Instead of buying more VCN, buy XIC. The ACB on the new $50k is based on the current XIC price (high) rather than a the average of all your old (low) VCN cost plus the $50k weighted in.
This may open up more harvesting opportunities, since the stock only has to go down 5-10% from current price rather than 5-10% of prices from many years ago.
Thoughts?
@david mckenna . i started wondering the same yesterday, but convinced myself that buying the same fund, and increasing my ACB therefore reducing gains declared when i do a partial sale in future (all things else being the same), was more advantageous. but looking forward to Dan’s opinion
@David and François: If you’re sitting on a large gain and believe you won’t ever have an opportunity to harvest a loss, then sure, you could make subsequent purchases of a different ETF. In practice, though, this can make portfolios pretty complex. What happens, for example, if your new ETF also climbs significantly and now you’re sitting on two ETFs with little chance of a loss? Do you buy a third? For that reason, we don’t do this with clients. But in theory it’s a sound strategy.
There may even be specific circumstances where it makes sense to trim a large position to realize a capital gain during a year where you expect to have a lower than normal income (maybe during a sabbatical, after a job change, or if you have capital losses you use to offset it) and therefore little or no tax liability. Then you might use the proceeds to buy a different ETF in the same asset class, effectively resetting your ACB.
@Canadian Couch Potato
With the right software to run a portfolio, the added complexity could be managed. The bigger question is what would the real gain from any of this be? That would require some historical data and spreadsheets to see if it ever does add up to much.
If you ever did come into a large sum of money such as a inheritance or business sale, it might make sense to use this approach.
@David: I don’t think a historical back test would reveal anything useful about the future benefit: it would just tell you what the benefit would have been in the past under very specific circumstances (the specific buy and sell dates would change everything). But, yes, if you were in a situation you describe (receiving a large lump sum) then it would indeed by something to consider.
@CCP: Just a clarification: in your example of “dancing” between VCN and XIC in managing the tax loss selling and immediately re-buying the same value’s worth in the “sister” or “cousin” stock, and doing it twice at a 30 day interval, in the end you have triggered a tax-loss to be offset against any prior capital gain, and have not violated any superficial tax-loss rule. However, in practice, the difference between the indexes tracked by VCN and XIC is so small as to be insignificant. One might well choose one or the other at the initial purchase with no qualms, right?
So after 25 years of balancing and holding in Couch Potato style, and triggering tax losses whenever available as in the above example, you have more or less what you planned for as an asset distribution in broad spectrum Canadian Equities represented by the sum of your VCN and XIC (assuming some might get left over after selling some optimum proportion), just as though no intermediate switching transactions had taken place, except that you would have deferred paying considerable capital gains tax over the 25 years.
So, given that the strategy is so transparently advantageous to us, what are the chances that Revenue Canada would call us on that, and disallow the tax loss harvesting on the basis that although the FTSE All Cap and the S&P/TSE Composite Capped indexes are indeed “different”, they both track the top 250 stocks on the TSE and thus essentially perform the same function.
I too have often wondered why the CRA allows tax deferral through this practice. I thought their mandate was to maximize the flow of funds from our pockets into government coffers! :)
Income taxes were first introduced as a temporary measure in Canada — I believe. How long is this temporary period going to be? Can we look forward to a time when the topic in discussion becomes moot? :)
@Oldie: Tax-loss selling is not a tax dodge. It’s not even guaranteed to be advantageous, as we pointed out in our white paper (and as Justin explains in his recent blog). While cap-weighted indexes are very similar, there can be significant tracking error over short periods.
I suppose it’s always possible that the CRA could change its opinion, but it’s hard to imagine they could ever apply such a ruling retroactively.
I realize this might not be applicable to all your readers, but I know that at least some invest in a professional corporation. In this case, it is my understanding (could be completely wrong though!), that losses can only be carried forward for 20 years. Also, I have been told that it makes more sense to realize any gains (for instance if forced to for rebalancing) FIRST, and then trigger losses second, rather than the other way around – perhaps you could explain that? (it has something to do with the capital dividend account and filing something with CRA)
Also, I have tried to keep a list of substitute ETFs for my current holdings in each asset allocation just in case – (like soccer players waiting on the bench incase the starters get injured). Is there a good resource to find which players/ETFs might be equivocal in performance, but track different indexes? For the core holdings this is now easy, but for those following the ubertuber portfolio, it is hard to find subs for things like small cap or value ETFs. For those with an allocation to something like gold or other commodities (timely), there is so many different ways the ETFs get exposure – it is hard to know what would be “equivalent”
@CCP: OK, as I understand the rules; that the critical distinction to avoid violating the “superficial tax loss” rule is to choose an ETF to re-buy that tracks an actually different index, even though it may be similar;
If I wanted to switch my holdings in XEC whose webpage describes its tracked index as the MSCI Emerging Markets Investable Market Index. to a similar value of ZEM which supposedly tracks the MSCI Emerging Markets Index, can I trust these website descriptions to be describing 2 distinct indexes? Or is the ZEM description just an abbreviated form of the same index that XEC tracks?
I’ll preface my comments with the usual warning that I am not a tax specialist, and any decision should be made after consulting someone who is.
@Oldie: CRA’s tax bulletin TI 2001-008038 (which does not seem to be archived on the web) states that two index funds tracking the same index are considered identical property, but those tracking two different indexes in the same asset class are not. As an example it says that funds tracking the TSE 300 (the old name for the S&P/TSX Composite) and the TSE 60 would not be considered identical. The MSCI Emerging Markets and the MSCI Emerging Markets IMI are different indexes: the latter includes hundreds of additional mid- and small cap stocks.
@sleepydoc: Capital losses can be carried forward indefinitely. Non-capital losses can be carried forward up to 20 years. The CRA defines a non-capital loss as “any loss incurred from employment, property or a business.” You may be able to deduct these from other forms of income. Capital losses, on the other hand, can only be used to offset capital gains.
http://www.cra-arc.gc.ca/tx/ndvdls/tpcs/ncm-tx/rtrn/cmpltng/ddctns/lns248-260/252-eng.html
In a personal account I don’t see any downside to harvesting losses before realizing gains, except to acknowledge that their are some costs to the transactions. Indeed, once you realize a gain you have just three years to harvest an offsetting loss before you are no longer able to carry it back and that opportunity may never come. There may be different strategies to consider in a corporation, but I will leave that to the accountants.
It’s true that the the more narrowly focused an ETF, or the more exotic the strategy, the harder it will be to find a replacement to use in tax-loss selling. Considering you would be holding the replacement for just 30 days you should be able to get close enough by using a broad-based ETF instead of a value ETF. In the case of the Uber-Tuber, that might mean IEFA instead of EFV, or VB instead of VBR. There certainly could be some tracking error, but hopefully not enough to eliminate the benefit of harvesting the loss.
https://canadiancouchpotato.com/2013/10/24/finding-the-perfect-pair-for-tax-loss-selling/
Has anyone done an analysis/backtest of how effective diligent tax-loss harvesting would be over a long time horizon? The examples on Justin’s blog are good, but a one time harvest in isolation is not that interesting over the long term.
Given actual retrospective index data and a rule-based tax-loss harvesting strategy, it would be interesting to know what percentage of taxes could be expected to be deferred over the long term, and how this compares to the frictional costs of the strategy.
@Chris: Any analysis of the benefit of tax-loss selling would rely on so many assumptions that it would likely be useless. The benefits of this strategy will depend enormously on the individual’s tax situation, which is I am leery about robo-advisors automating the process.
Wealthfront made an attempt to quantify the value of tax-loss selling, but their white paper was criticized for dramatically overstating the potential benefit:
http://www.kitces.com/blog/wealthfront-tax-loss-harvesting-white-paper-how-not-to-calculate-tax-alpha/
@ Oldie:
>> “If I wanted to switch my holdings in XEC whose webpage describes its tracked index as the MSCI Emerging Markets Investable Market Index. to a similar value of ZEM which supposedly tracks the MSCI Emerging Markets Index, can I trust these website descriptions to be describing 2 distinct indexes?”
Why would you ever rely on an ETF provider website for information relevant to something as important as managing realized taxable capital losses and the superficial loss rule?
Go to the source(s):
1) SEDAR to get the ETF documents precisely describing the index being tracked:
http://www.sedar.com/search/search_form_mf_en.htm
2) The index provider for more detail on the relevant index(es) if you are concerned about potential overlap:
(in the case of your EM example)
http://www.msci.com/products/indexes/
@CCP: Excellent, thanks! That’s what I thought, but I just wanted to be sure I wasn’t mistaken, due to unfamiliarity with the naming of the indexes. Incidentally, my situation is particularly pertinent in that I declared a huge capital gain 3 years ago, and I was hoping for a painless way to offset this in some small way before the limitation ran out.
@Steve: I acknowledge my lack of expertise here, and appreciate your advice.
@CCP: (BTW yes, of course, as always, tax specialist advice will be sought).
I have to choose between ZCN, VCN and XIC for my taxable account. Which is the best for tax purpose (distributions etc) ?
Back to topic, I manage/balance through multiple accounts (RRSP, RESP, taxable) so my taxable will be 100% Canadian stock, probably forever. Does that tax loss harvesting could apply to me ?
A capital gain is taxes on my marginal rate but losses can only offset gains ? (Not income taxes)
@Le Barbu: There is no meaningful difference between ZCN, XIC and VCN in terms of tax-efficiency. They should all have very similar returns, both pretax and after tax.
Yes, you could still use tax-loss harvesting even if you non-registered account held on Canadian equities. You would simply need to switch back and forth between two different Canadian equity ETFs tracking different indexes.
Capital gains are effectively taxed at half your marginal rate (i.e. half of the realized gain is taxable at your marginal rate). And yes, capital losses can only be used to offset capital gains, not other income.
So, if I have plenty of room for rebalancing in other accounts to keep AA goal, I should not bother switching to harvest losses. Would be great for me if I could get a tax refund on income. I will probably just buy & hold till I retire. Tax rate will be in lower bracket
@ccp I seem to recall reading a few years back (can’t find the reference now) that the tax loss of a partial sale could not be used to offset CG but instead is added to (and increases) the acb of the remaining shares.
i.e. Jan 2012 purchase 1000 shares and then if in Jan 2013 you sell 250 shares at a loss of $1/share (= $250) but continue to hold 750 into 2014, the adjusted acb is increased by $0.333 (rather than offsetting a 2013 CG)
any truth to this?
@qas: Nope, no truth to that. The partial sale of a holding can be used to offset a gain and it does not change the ACB of the remaining shares. For example:
– You buy 1,000 shares of XYZ at $20 each. The price then falls to $19 and you have an unrealized capital loss of $1,000 or 5%.
– You sell 250 shares at $19. You realize a capital loss of $250, which you can use to offset a capital gain.
– Your remaining 750 shares still have a book value of $20 and a market value of $19 and you now have an unrealized capital loss of $750 (which is still 5%).
I have rarely found any value in tax-loss-selling.
* In order to realize a loss your cost/purchase must have been at a higher price. That means you did the unforgivable buy-at-the-top.
* Since markets trend upward, anyone with a long-term hold may sell after a drop of 20% from the market peak, but still have an unrealized gain, not loss.
* And for those who did buy at the peak, it is very probable that the cash for that purchase came from the sale of another stock which triggered a gain. Since you must net the gains and losses within any year, you are left with no net loss.
@retail investor. Not sure I understand the “unforgivable buy at the top” part. I bought when I came into a large cash influx. When the Canadian equity component dropped 12% I had enough to be worth triggering a capital loss as well as a big gain three years ago in a higher tax bracket. So it seemed like a sensible decision to go ahead.
Well, this week I sold a whack of ZCN that I had bought earlier this year and bought VCN, triggering a modest capital loss to offset against a huge capital gain stemming from a sale of an inheritance property 3 years ago. (I describe this to illustrate, as an example of perhaps uncommon but by no means impossible situations where tax loss selling can indeed be useful). My only regret was that I had not done this earlier, perhaps in mid-October when the realised loss would have been really spectacular. But, in true Couch Potato Style, I was truly blissfully ignoring the markets.
Actually, I shouldn’t be blaming the Couch Potato philosophy. The true couch potato does indeed ignore the markets. But recognising that a capital loss can save tax has nothing to do with following the true couch potato strategy. Had I been more strategically savvy regarding potential tax losses, I should have been following the Canadian market, specifically looking for a large drop before the 3 year capital gain offset limit expired. As it turned out, the above article triggered my attention, and it wasn’t too late to still salvage some benefit.
@ Oldie:
>> “Actually, I shouldn’t be blaming the Couch Potato philosophy. The true couch potato does indeed ignore the markets. But recognising that a capital loss can save tax has nothing to do with following the true couch potato strategy.”
Yep.
A doctrinaire Couch Potato would never tax loss harvest, because such an investor would, out of principle, never sell due to market conditions during the accumulation phase – except during rebalancing, when it is the assets that have gone up the most that are reduced, resulting in capital GAINS (taxable or not, depending on the account).
Tax loss harvesting is, in effect, really a form of risk-free (i.e., guaranteed return) market timing** … the spirit is willing but the flesh is weak ;-)
**Of course tax loss harvesting just results in a deferral of capital gains tax, not its elimination, so the “guaranteed” return relies on the discounted present value of the future liability being less than the deferred current liability. This may or may not end up actually being the case, depending on future tax changes.
@Steve: I agree fully. And you’re right I should have said “defer tax” instead of “save tax.” But deferral is not necessarily a trivial thing. Suppose you could defer the tax on 50k capital gain. To make it simple, let’s assume your marginal rate now, say 30%, is the same as it would be in 25 years when you cash out. Deferral would amount to an interest free loan of 7.5k for 25 years; meanwhile your original asset continues to appreciate as before.
@ Oldie:
I didn’t mean any criticism of your comment at all – I just added the asterisked postscript because I couldn’t resist the bon mot about Couch Potatoes engaging in “market timing” when they harvested capital losses … and so felt the need to clarify the point in a serious way after ;-) lol
Having said that – rereading my asterisked postscript just now, I see it was written so remarkably badly, unclear and inexact, that it would have been better to leave it out entirely and just end on the “market timing” mea culpa of Couch Potato doctrinal duplicity …!!!
@Steve: “A doctrinaire Couch Potato would never tax loss harvest, because such an investor would, out of principle, never sell due to market conditions during the accumulation phase.” I’m not sure whether you’re being tongue-in-cheek here, but for the sake of others who might read this comment I should point out that there is no conflict between a passive investment strategy and tax-loss harvesting. TLH has nothing to do with market timing: by crystallizing a loss and then purchasing a different ETF in the same asset class you are not changing your market exposure at all.
@CCP:
Not half tongue-in-cheek …
There are passive investors, including some who post here, who claim it a point of commitment to a long term buy-and-hold philosophy to even remain ignorant of market movements – only checking their account statements at preset rebalancing times for example (I’ll raise my hand too): doctrinaire Couch Potatoes.
As Oldie pointed out: ” But, in true Couch Potato Style, I was truly blissfully ignoring the markets.” – that would lead to not recognizing tax loss harvesting opportunities … And so to recognize these, one is in effect required to follow the markets and pick a time to sell, something the Couch Potato strategy was (in part) precisely designed to avoid.
That inherent contradiction between the purist principle of inactive ignorance, and the need in reality to periodically calculate fund balances and ACBs so as to act at the right time – which no reasonable person would associate with being in a state of Couch Potato repose! – was behind the comments.
I’m not expecting The Daily Show to recruit me as a writer any time soon.
@Steve: I suppose there may be people who ignore opportunities to defer or reduce taxes. But that makes as much sense to me as saying a true passive investor would not bother to consider whether contributing to an RRSP or a TFSA would make more sense. Passive investing is not about “inactive ignorance.” It’s not about lapsing into a coma. It’s about tuning out things that have been shown to add no value over the long term, such as making economic forecasts and active trading. Tax management is certainly not in that category.
This is a little off topic but with the surge in stocks in north America I am sure lots are thinking hang on to cash and wait to invest as opposed to these high prices in the states and TSX etc.
Is there any data on a year to year new money “IN” rebalance at market top (or near top) vs waiting for pull back to dump it in. Not in to market timing but just trying to be reasonable as some index’s look over priced? I am sure lots of others are thinking same thing, particularly when you only got $5500 if your trying to max out TFSA every year, maybe makes sense to hang onto a few years of contributions for a 10-20 percent pullback in market?
Thanks
Mark.
@CCP:
No one should “ignore [legal] opportunities to defer or reduce taxes”!
Human nature being what it is, following the markets for tax management will increase the temptation of the slipperiy slope leading to “things that have been shown to add no value over the long term, such as making economic forecasts and active trading.” (Cf mark’s comment just above)
Attempting to avoid that slippery slope through a Couch Potato avoidance of market mania – while having to face and control market temptations for tax management – is the irony (and the humour, as I thought) behind Oldie’s observation and my replies.
@Steve: Irony aside, I think that we can avoid any contradiction in principle by stating that indeed, the “purist” couch potato principle requires no market tracking at all, while on the other hand my own specific need for tax relief through Tax Loss Harvesting (the subject of this post) and which required closely following the markets, hoping for a significant dip in prices to exploit was, technically, not part of the couch potato program, i.e. passive index investing to fill out a well thought out asset allocation mix plan, periodic rebalancing, and holding for the long term.
Also, this separate and distinct need for TLH is a fringe need, affecting only a small percentage of the general pool of all investors, including couch potatoes. As for myself, I don’t anticipate ever being able to benefit from this again, certainly not in such a big way.
Putting TLH aside, regarding the behavioural reality of being a Couch Potato, you could reasonably argue that in practice, some casual following of market conditions might be in order, so that one might be triggered by some unexpected market condition to re-balance, even before your next anticipated accounting review (annually or whatever), if there were some resulting significant imbalance in your asset allocation mix. I am currently struggling with whether I should be paying any or some attention to this area, or whether I should be true to principle. Not following the markets at all indeed would free you from the hassle, intensity and sleepless nights that bedevil the typical investor — and after all, was not the promise of the couch potato method but to free us from this tyranny?
The answer to this question seems to fall in the grey area of the couch potato handbook. I don’t believe there is an absolute answer. I suspect that once you grasp and follow the underlying CP principles, whether or not you elect to “somewhat follow the markets” or “steadfastly ignore market prices, except once a year”, your investments will look after themselves with minimal difference one approach or the other.
(@Mark: my remarks on the ambiguity of what constitutes the ideal rebalancing period of the true CP do not , unfortunately, extend to your musings regarding whether or not to wait to buy Canadian and US equities which are conventionally regarded in the popular press as being currently overpriced. This thinking, in my respectful opinion, goes completely beyond the slippery slope, and is hanging way out into “predict the future” territory, which we are specifically cautioned not to do in our basic Couch Potato training. I empathise with you the emotional difficulty of putting major money down for an asset that has recently meteorically shot up in price. But when one casually says “Not in to market timing but just trying to be reasonable…” perhaps it sounds much more benign in one’s head than if one were to see the very same words in print. )
@Mark: Sitting in cash while you wait for a the right time to buy is, by definition, market timing. I know it sounds like a broken record, but I remain convinced that the best way to execute a disciplined strategy is simply to invest money when you have it and to rebalance when necessary. Valuations matter, for sure, but it there is no reliable way to profit from trying to choose your entry point with every contribution to your accounts.
Thank you.
Mark.
@Steve: ignore my question and half baked answer: I should have remembered, as usual, good ol’ CPP has adequately covered the territory before, with references to advice from other financial thinkers, suggestions for pragmatic resolution to the question, as well as the usual interesting discussion by readers.
https://canadiancouchpotato.com/2011/02/24/how-often-should-you-rebalance/
Steve: I have a Google Docs spreadsheet set up to automatically pull current prices for my holdings, and it emails me when there is either a tax-loss opportunity or when my rebalancing thresholds are hit. It allows me to avoid following my portfolio too closely, but I’m still (indirectly) quite on top of the situation. Maybe you should consider something similar. But, as Dan mentioned, I don’t go into a coma about it: I also check my brokerage statement every month to ensure distributions are paid properly and that the brokerage hasn’t lost my shares, but that’s really just a five minute per month exercise.
Hi Dan – was just curious if you had any thoughts to share on how tax loss harvesting is handled with USD denominated assets. Based on the ACB calculation for USD-denominated assets, it seems like one may only harvest a loss in Canadian terms; however this seems to lead to a couple of possible degenerate outcomes:
* Buy USD-denominated asset; CADUSD while the asset remains the same price; this looks like an ACB CAD ‘loss’ even though in USD terms nothing has changed
* Buy USD-denominated asset; asset drops in USD price but is offset by USDCAD rise; this looks like an ACB non-loss even though the asset did indeed lose value
The first case feels like an unfair gain to the investor; the second feels like an unfair loss to the investor. I suppose one must simply accept these outcomes as ‘part of the game’ when dealing with USD-denominated assets?