Enhancing Active Tax–Management through the Realization of Capital Gains

This paper explores the tax-management strategy of realizing long-term capital gains in a portfolio of equities and quantify how much it can add to after-tax performance. This approach is counter to the more common strategy of deferring the realization of capital gains as long as possible while only realizing capital losses. It also evaluates the associated costs and benefits: benefits accrue if there is a large difference between tax rates on long-term and short-term gains, if the investor has a surfeit of short-term gains that are generated externally to the portfolio, and if the value of deferring taxes is low. Finally, the paper addresses how the benefits vary as market conditions change and address some associated implementation issues.