If you have money in a fund that is performing poorly, at some stage you may decide it is time to cut your losses.
And as the end of the tax year looms, many investors will probably think it is a good time to sell a dud so they can reduce their tax bill. But that will be possible only if you have made a capital gain against which you can offset the loss.
A capital loss cannot be offset against income from other sources. So you can’t offset a capital loss from selling an investment against your salary, for example.
But if you sell an investment for a $100,000 gain and lose $20,000 on another investment, your capital gain is reduced to $80,000 and capital gains tax (CGT) will be based on that lower amount.
A loss may be carried forward to offset future gains, so if you don’t have a capital gain this year you can use the loss to offset a future gain. There is no time limit on carrying forward the loss.
So if you have made a capital gain this financial year and you have any unrealised capital losses, you may want to think about crystallising your losses so that you can offset any gain you made.
Of course, you shouldn’t make an investment decision based on a tax benefit but if you were thinking of dumping a losing investment, now could be a good time.
Here are some of the issues to consider when deciding if you should sell funds or shares.
– Has the poor performance been over the short term or a longer period? If it is only over a year or two, you may want to give it a chance to recover.
– Look at the possible reasons for the underperformance – it may just be market-related, for example.
– Make sure you’re comparing its performance with those of equivalent funds. If a fund is consistently performing badly compared with similar funds over four or five years, it could signal problems with its people or investment processes.
– Has a key investment manager leave or are there are other changes to the team? The loss of a key manager can have a serious impact on a fund’s performance. If the fund has already suffered as a result of such a change, it may be time to make a move.
– Has the investment strategy has changed? For example, if a fund changes its focus from shares in major companies to include smaller and emerging companies. This may no longer suit your needs so could be a reason to reassess your investment. Poor returns can also be the result of a major organisational change, such as a takeover or merger. If that’s the situation, it can be a strong case for selling.
– Why did you buy the stock in the first place and have those conditions changed?
– Has the stock done what you thought it would?
– Would you buy the share now if you didn’t already own it?
– Do you think the stock is highly priced?
– Did you set a target selling price when you bought the shares? If so, has the investment reached that price?
– Has the company changed its core business?
– Does a particular company make up too much of your portfolio, putting it out of balance? If so, you might want to rebalance your portfolio by selling up.
– How are other investments of the same type performing?
If you do sell make sure you don’t buy back the shares in a hurry again, as this may be considered “share washing”.
It’s also a good idea to think about what you will do with the money when you sell any investments.
It pays to have a plan rather than letting it languish in a low-paying cash account.