Most owners of concentrated positions understand the risks inherent in continuing to hold their shares. A significant drop in the price of the issue has the potential to inflict irreparable harm on a portfolio. One potential solution to the problem is to sell the stock. But many owners are wary of the tax implications of implementing this simple strategy and are therefore hesitant to take action. Sometimes, however, the simplest option can produce the best result. To determine whether an outright sale is an appropriate solution for reducing risk, let’s review the benefits and downside considerations associated with such action.
Benefits of an outright sale
- The risk associated with the position is immediately removed from the owner’s portfolio.
- The owner now has available cash to allocate to a diversified portfolio—one that is more appropriate for their risk tolerance and financial goals.
- For most taxpayers, long-term capital gain tax rates are still historically low at 15 percent. If the owner is in this 15 percent bracket, selling the position now may make their tax bill more manageable than it could be in the future, if rates were to rise.
Downside considerations associated with outright sale
- Although long-term tax rates may be at historic lows, the sale of low-basis shares can significantly increase the owner’s taxable income.
- A very large capital gain may subject the owner to the alternative minimum tax.
- The owner will no longer participate in the appreciation of the sold shares.
- If the owner were to hold the shares until their death, the heirs would inherit the position with a step-up in tax basis to the fair market value on the date of the owner’s death.
- The sale of a significant number of shares on a public exchange could lead to a decrease in the price of the security.
- If the owner’s income exceeds the taxable income thresholds ($445,850 individual and $501,600 married filing jointly), the owner will be subject to the higher 20 percent long-term capital gain rate.
- If the owner’s modified adjusted gross income exceeds the thresholds ($200,000 individual and $250,000 married filing jointly), the owner’s capital gains will be subject to an additional 3.8 percent Medicare surtax on investment income.
All information is for the tax year 2021.This material has been provided for general informational purposes only and does not constitute either tax or legal advice. Although we go to great lengths to make sure our information is accurate and useful, we recommend you consult a tax preparer, professional tax advisor, or lawyer.
Dan Flanagan is a financial advisor and Partner located at Canby Financial Advisors, 161 Worcester Road, Framingham, MA 01701. He offers securities and advisory services as an Investment Adviser Representative of Commonwealth Financial Network®, Member FINRA/SIPC, a Registered Investment Adviser. He can be reached at 508.598.1082 or firstname.lastname@example.org
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