Key Takeaways
- Recent strong market performance means I’m realizing more gains than losses during portfolio rebalancing.
- For many clients, this means they’ll pay a capital gains tax on gains realized in taxable accounts.
- Paying capital gains tax means your investments have grown, a sign of portfolio success rather than a financial burden.
- You can use money directly from your investment account to pay capital gains taxes or coordinate with your CPA on quarterly estimated payments for larger amounts.
I’ve been having some interesting conversations with clients lately as I work through portfolio rebalancing this year. Most of my clients have been with me long enough that we’ve weathered several market cycles together, and the markets have been good enough over the last few years (despite a few blips) that many haven’t experienced losses in a while.
This is great news and I couldn’t be happier! But it’s also created a new dynamic for many of you.
When I tell clients we need to realize some gains to rebalance their taxable accounts, I can almost hear the collective intake of breath over the phone. “But that means we’ll have to pay taxes,” they say, as if I’ve just delivered terrible news.
But the taxes, in a way, are a kind of blessing. You are almost always better off paying taxes on a gain than taking a loss.
If you’re facing capital gains taxes this year and feeling less than thrilled about it, I’d love to help you reframe this situation. Paying taxes on investment gains is actually good news, and it’s something we should prepare for and embrace as part of successful long-term investing.
What Are Capital Gains Taxes?
Capital gains taxes are taxes you pay on the profit when you sell an investment for more than you paid for it. (In other words, realizing a gain.)
This applies specifically to your taxable investment accounts, not tax-advantaged retirement accounts like 401(k)s and IRAs. (Gains on traditional 401(k)s and IRAs are taxed as ordinary income when you make withdrawals, and we typically do withholding on retirement accounts.)
When I’m rebalancing portfolios and need to realize gains to maintain your target allocation, these are the taxes that come into play. And while the tax bill might feel unwelcome, there’s actually good news hidden in that statement.
Why Paying Capital Gains Tax Is Actually Good News
When you pay capital gains tax, it means your investments have grown! Your money is working for you. The alternative — realizing losses — means your portfolio value has declined.
I’d much rather help a client figure out how to pay taxes on gains than comfort them through market losses.
I know you understand this intellectually, but sometimes we need the reminder when we’re staring at a tax bill. Think of capital gains as a measure of your investment success. Yes, you’re sharing some of that success with the government, but you’re still coming out ahead.
Practical Strategies for Managing Capital Gains Tax
Now that we’ve reframed the mindset, let’s talk about the practical side. One of the most common concerns I hear is, “Where am I going to get the money to pay these taxes?”
This part isn’t actually as stressful as most clients think it will be.
You can take money directly out of your investment account to cover the tax bill. You don’t have to use your savings or find money somewhere (unless you really want to do so). You’re simply using a portion of the gains to pay the taxes on those gains.
Or, if you’d rather all the money in your account be reinvested, we can develop a plan to cashflow the capital gains tax payment when you file that year’s tax return.
For larger gains, we might need to look at making quarterly estimated tax payments to avoid underpayment penalties. This is especially important if the gains are significant enough to bump you into a higher tax bracket — which we always try to avoid — or if you typically don’t have much tax withholding throughout the year.
When I’m rebalancing portfolios, I look at maintaining your target allocation and also carefully considering how the gains we realize will affect your overall tax picture. This includes potential impacts on Medicare IRMAA surcharges for those who qualify, and balancing the investment benefits of rebalancing against the tax consequences of realizing gains.
I work with clients and their CPAs to try to make sure we’re coordinating our approach so there are no big surprises come tax time.
This Is What Successful Investing Looks Like
It can feel unsettling to owe taxes on your portfolio. Even clients who have been investing successfully for years sometimes feel a twinge when they see that tax bill.
But this is exactly what successful long-term investing looks like!
When I started working with many of my clients years ago, we talked about building wealth for their future. We discussed market volatility, the importance of staying the course, and how compound growth works over time.
What we’re seeing now — portfolios that have grown enough to generate meaningful capital gains during rebalancing — is that strategy paying off exactly as intended .
A few years ago, I was regularly harvesting losses to help offset gains and reduce tax bills. Now, with portfolios that have appreciated significantly, rebalancing often means realizing gains instead of losses. This transition is actually a milestone worth celebrating.
Move Forward with Confidence
The next time you hear that you’ll owe capital gains tax, I hope you’ll celebrate. This is confirmation that your investment strategy is working!
The taxes are simply the cost of that success.
Rather than dreading tax season, start thinking about it as an annual check-in on your progress. How much did your portfolio grow this year? What gains are we realizing as part of our rebalancing strategy? How does this fit into your broader financial picture?
If you’re paying capital gains tax for the first time in a while or if the amounts feel larger than you’re comfortable with, don’t hesitate to reach out. We can review your portfolio, discuss your tax strategy, and make sure you’re prepared for what’s ahead.
After all, successful investing is all about growing your wealth and managing it wisely once you have it. Paying taxes on your gains is exactly what wise wealth management looks like.
Want to discuss your investment strategy and how to prepare for capital gains? Schedule a call and let’s make sure you’re positioned for success.
Content in this material is for general information only and is not intended to provide specific advice or recommendations for any individual.
