To Sell or Not Prior to 2013

With the new tax laws potentially changing in 2013, the question is whether you should sell appreciated capital assets in 2012 to take advantage of the lower rates and the 15% Federal tax rate as compared to the potential 23.8% tax in 2013. This is a tax increase of 58.67% over the current level. The dilemma is whether you wish to part with a particular position or not, especially in the case of publically traded securities and appreciated securities positions which you can easily re-base by selling them and then buying the same security. No, there isn’t a “wash gain” rule comparable to the wash sale rule for losses as there is when applied to losses, thus you can sell an asset at a gain today and buy the same asset tomorrow.

Naturally, whether this strategy will work or not is something that can only be determined over time and it depends on a number of assumptions that are often very difficult to quantify. As an example:

  1. Selling earlier than you might have otherwise done means paying the resulting tax;
  2. Once the asset is sold, the money no longer generates for the returns;
  3. Instead, by keeping the amount you would have paid in taxes, invested on a pre-tax basis, you might have eventually generated enough additional return to offset the higher tax.

On the other hand, having said that, if you have an asset that has substantially appreciated that you were thinking of selling anyway in 2013, it will almost certainly be more advantageous to sell it in 2012. If you have a position that you expected to hold for the next 10, 15, or 20 years, you are most likely better off just keeping that position. Over a period of 15 years, by keeping the amount of tax you would pay now invested and generating additional return, in all likelihood, you would have earned enough to pay the increased amount of income tax that will eventually be due at the time you sell. Lastly, you need to consider the most effective use of your capital loss carry overs which you may have.

The difficulty lies between the two extreme cases. The future holding period of the asset and the future return are inversely correlated – as the asset’s future rate of return increases, the additional time that the asset must be held to overcome the higher tax rate decreases, thus as a rule of thumb you might at least consider re-basing positions that you expect to sell within the next 5 years. One last thought is to remember that the early payment of any applicable State income taxes will also diminish the amount of your invested capital going forward.

If your portfolio consists of highly dividend paying stocks, you might want to consider whether this strategy continues to make sense in view of the fact that the rate of dividends will be nearly three times what it is today, beginning in 2013 if the law were to go through.

As you can see, these are not easy discussions and there are no easy answers to the questions; therefore, it is imperative that you open the lines of communication with your investment advisor, accountant, and possibly legal advisor in order to make sure you are moving in the right direction.