What is Tax Loss Harvesting?

Whenever you invest in equity funds, you make capital gains. These capital gains are taxable based on duration of investment in that fund. Tax-loss harvesting is used to reduce tax liability on investments.

In tax-loss harvesting, you sell your stocks/fund units at a loss to reduce your tax liability on capital gains. It is a method to offset the capital gains made on equity against the capital loss suffered to pay a lesser amount of tax. 

The income-tax provisions permit an individual to set off capital loss against the capital gains of the financial year. When a taxpayer makes substantial capital gains during the financial year he could sell stocks from his portfolio where the stock prices are falling sharply and are expected to fall further. The loss suffered on such stocks can be offset against the gains made on other trades. This helps the taxpayer to reduce the tax outflow. While using this option, one should, however, remember that short-term losses can be set off against short-term and long-term gains but long-term losses can only be set off against long-term gains. So selling the right kind of stock holdings is important here. The investor would have to make this transaction before March 31, 2022, to harvest losses for FY 21/22.

If a person intends to hold these stocks and don’t want to sell them, he can buy the stock back after two days of selling. Two days because that is the settlement cycle when he buy or sell stocks—it takes 2 days for the stock to be debited from his demat. He can also potentially sell his stock holdings and buy similar stocks in the same sector immediately.