I have read numerous articles recently that have confused, or worse, flat out erroneously articulated ideas regarding 'tax-loss selling' and the dreaded, horrifying 'fiscal cliff'.
I will start off with the disclaimer that I am not predicting that we will fall off the "fiscal cliff" or advising people to act upon it. I am simply trying to clarify how it may affect investors and their tax-loss selling tendencies. Naturally, the correlation will be greatly dependent upon how many people will speculate that it will happen or not.
I will keep this brief and straight forward as income taxes tends to transform even the strongest of individuals into blubbering, crying babies (I apologize to any and all infants I may have upset with that last remark).
Simply put, tax loss selling occurs when tax-savvy parties (individuals, institutional investors or whoever) minimize their tax liabilities by disposing of positions that are in a loss position before the fiscal year ends. Lock in losses --> income decreases --> less taxes to pay. This is particularly effective for high-tax bracket individuals.
I don't need to reiterate in detail what the fiscal cliff is all about as there are enough pundits commenting on it but to summarize the relevant aspect here - taxes will be hiked for 2013.
First of all, the only interrelationship between tax-loss selling and the fiscal cliff is in the increase in capital gains (short term & long term gains). I do not profess to know the details, as I am Canadian (uh oh, 95% of the people viewing this article just left), but assuming the cliff includes increased taxes to capital gain income, it relates to tax-loss selling from that stand point.
So now, given the option, save some money now or save a lot more money later (and the difference between the two options is the increase in tax rates on capital gains between 2012 and 2013 due to the fiscal cliff), which would you choose? Sure, some will say I need that shiny new Apple whatchamacallit ASAP (or perhaps BB10 anyone?) and will take the money now and run, but is it not safe to say that there will be SOME people re-considering this approach this tax-loss selling season to preserve it for next year when it could be so much more significant?
IMHO (in my humble opinion - to those that still may not recognize the acronym), there will certainly be some tax-loss selling and the markets will feel a little lighter after the holidays - much like our wallets but unlike our waists; but it will be significantly less than previous years as the ultra-wealthy and the ultra-advised will hold off to preserve their losses for when they will really need it - in 2013 - once again, as I stated at the top, assuming we fall off the fiscal cliff.
No cliff, and its business as usual for the tax-loss selling community, but to those who believe the cliff is imminent, the impact of steep tax-loss selling may not materialize.
Let's all use this information to critique and re-think our past preconceptions and hopefully we will all be rewarded financially from Ol' St. Nick this season. Happy holidays!
Disclaimer: I am a Canadian Chartered Professional Accountant, CA and as such, I have no positions on this topic, and no plans to initiate any positions within the next 72 hours.