What Is Tax-Loss Harvesting? Benefits and Risks in India

Tax-loss harvesting means the sale of a stock at a loss in order to create a capital loss that could be used to set off capital gains. In India, short-term capital losses can be set off against both short-term and long-term capital gains, whereas long-term capital losses can be set off versus long-term capital gains only.

Tax-loss harvesting is a form of tax planning related to capital gain. Disposing of a losing security results in the recognition of a capital loss that was otherwise unrealized. Certain conditions need to be satisfied by the taxpayer.

●     Tax-loss harvesting turns an unrealized investment loss into a realized capital loss.

●     Short-term capital losses can generally offset both short-term and long-term capital gains.

●     Long-term capital losses can generally offset only long-term capital gains.

●     Eligible unused capital losses can be carried forward for up to eight years.

●     Tax-loss harvesting can decrease taxable gains, but selling also creates costs and financial risks.

Tax-loss harvesting works by selling an investment below its purchase cost and recognizing the resulting capital loss. That loss can then be set off against eligible capital gains under income tax rules.

For example, if a person has a short-term capital gain of ₹1 lakh and also a short-term capital loss of ₹40,000 in the same financial year, then after considering both to be eligible for set-off, the net capital gain will be ₹60,000.

The Income Tax Department states that short-term capital loss can be set off against both short-term and long-term capital gains. Long-term capital loss can be set off only versus long-term capital gains. Capital losses cannot generally be adjusted against salary or other income heads. This is why tax-loss harvesting works within the capital gains framework.

The main tax-loss harvesting benefit is the potential to decrease taxable capital gains in the year when the loss is realized.

An eligible unused capital loss can also be carried forward. Under current rules, capital losses can generally be carried forward for up to eight years. The Income Tax Department states that the loss return must be furnished by the prescribed due date for carry-forward eligibility.

This tax-loss selling strategy can also lead to a reconsideration of the portfolio. It will assist in identifying those investments which need reconsideration. Taxes should not be the only criterion for determining when to sell.

Tax-loss harvesting has risks because selling an investment changes the portfolio. Selling and buying can also involve brokerage, taxes, exit loads, or other transaction costs, depending on the asset.

Another associated risk is the issue of the holding period. There are certain requirements regarding whether the holding period is that of long term or short-term. The error here will create an erroneous claim for setoff. Exit loads and other expenses may also result in the diminished tax advantage.

Tax-loss harvesting also does not create a benefit in every situation. An unused eligible loss may instead need to be carried forward, subject to filing requirements.

Before using tax-loss harvesting, check the purchase price, sale price, holding period and type of capital gain or loss.

Keep contract notes and statements for calculating gains or losses. Review realized gains and losses across relevant investments. Check the relevant ITR form and report transactions correctly. Also check whether exit loads or other charges apply before selling. Consider whether the sale changes your intended asset allocation.

Tax-loss harvesting is a tax-planning mechanism, not a reason to sell an investment solely because it has fallen. Tax rules can change, so check the current position before filing.

Tax-loss harvesting can facilitate management of taxable capital gains, but tax-loss harvesting is not simply a tax-saving shortcut. The result depends on loss type, eligible gains, filing rules and costs. Check the current position before selling.

Ans. Tax-loss harvesting is a strategy of selling a financial asset for a loss in order to have a capital loss which could be able to offset an eligible capital gain. This is the case in India, where the set-off of losses would depend on whether it is a short-term loss or a long-term loss.

Ans. Tax loss harvesting refers to a planning technique in which capital losses can be offset against capital gains under certain set-offs of capital loss regulations. The Income Tax Department provides the provision of offsetting the eligible capital losses against capital gains.

Ans. Yes. A short-term capital loss can generally be set off against both short-term and long-term capital gains. A long-term capital loss can generally be set off only versus long-term capital gains. These rules apply subject to the provisions and filing requirements for the relevant asset and tax year.

Ans. Eligible unadjusted capital losses can generally be carried forward for up to eight years. The Income Tax Department states that the return for the year in which the loss occurs must be furnished by the prescribed due date for carry-forward eligibility.

Ans. No. Tax-loss harvesting does not guarantee tax savings. Its benefit depends on eligible capital gains, loss type, applicable rules and transaction costs. Selling an investment can also change market exposure and may affect the portfolio's intended risk level or allocation.