The two-year bear market may yield tax advantages. For 2001, the best result is a $3,000 net capital loss–that is the most that can be deducted against your ordinary income.
Suppose you have net capital gains of $4,000 for the year so far. At a 20% rate on long-term gains, you’d owe $800 to the IRS. In this case, take $7,000 worth of losses by year-end to give yourself a $3,000 net loss. In a 27.5% tax bracket for this year, you would have an $825 tax saving (27.5% times a $3,000 deduction) instead of an $825 tax obligation. When you make these calculations, don’t forget that capital gains distributions from mutual funds must be included. Such payouts are taxable unless the funds are in a tax-deferred retirement account.
Say you have $4,000 worth of net gains from trading so far this year plus $1,000 in mutual fund distributions. You’d need to take $8,000 in net losses to offset all the gains and wind up with a $3,000 deductible net loss. If distributions for 2001 have not yet been made, call your mutual funds to get an idea of the probable amounts.