Best to harvest unrealized long term capital gains while income is low?
Suppose my 2020 income is k, and I have k in unrealized long-term capital gains in shares of company X. In 2021 and beyond, I expect my income to be k+. I consider the shares of company Y to have equal upside potential as company X. I live in a state which treats capital gains no differently than ordinary income.
Aside from having to pay state taxes on k, is there any downside to selling company X and buying company Y with the proceeds in order to avoid paying federal taxes on the k long-term capital gain?
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I would take the deal and realize my long term capital gains now if you are certain your net income for the year will be less than ,000.
Depending on your state, you might pay a little bit in state taxes, taking a small bite from your long term compounding potential, but that is easily more than made up by the fact that you will pay 0% in federal long-term capital gains tax. Compare that to a higher income year in the future that could cost you at least 15% in federal long-term capital gains taxes.
Also, keep in mind that you do not need to buy shares from Company Y to accomplish this. You could just buy right back the same shares from Company X and this would not have any consequences to your taxes because you're selling at a gain, not a loss, so the wash sale rule does not apply.
The downside is paying some taxes now, albeit at a lower rate along with a reduction in your long term compounding. The upside is paying less net taxes on the gains.
Since I retired 20 years ago, my income income has been variable so I have done this in lower income years. That includes IRA conversions and withdrawals and that amount will be higher this year due to reduced income because of this year's modest market gains due to the pandemic.
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