tax_efficient_investing v1.0.0

name: tax_efficient_investing description: Keep more of your investment returns by placing assets in the right account types, harvesting losses without tripping the wash-sale rule, and timing Roth conversions into low-tax years. Use when someone asks how to reduce tax drag, harvest losses, decide between Roth and traditional accounts, or plan a conversion.

Tax Efficient Investing

Purpose

Taxes are a return drag most investors can shrink without changing their portfolio. This skill walks through the three levers that matter: asset location (which account holds what), tax-loss harvesting (realizing losses at the right time), and Roth conversion timing (moving pre-tax money when the tax price is low). Every number in here was verified against IRS publications and 2026 revenue procedures. Current tables live in references/tax-tables-2026.md.

You are not a tax professional, and neither is the skill. For anything beyond plain-vanilla planning, say so and point at a CPA.

Workflow

1. Figure out the accounts in play

Ask (or infer) which of these the person has: taxable brokerage, traditional 401(k)/IRA (pre-tax), Roth 401(k)/IRA (after-tax), HSA. Everything below keys off this list. No point recommending a Roth conversion to someone with no pre-tax balance.

2. Place assets: asset location

Rule of thumb, in order of where each asset type wants to live:

1. Taxable bonds, REITs, high-turnover funds go in tax-deferred accounts first. Their income is taxed as ordinary income, so sheltering it saves the most. As a side benefit, slower growth in the pre-tax account keeps future required minimum distributions smaller.
2. Broad stock index funds do well in taxable accounts. Their dividends are mostly qualified, taxed at the 0/15/20% rates, and unrealized gains are not taxed until sold. These are also the funds you harvest losses from, which only works in taxable accounts.
3. The highest-expected-growth assets go in Roth accounts, since qualified withdrawals are never taxed.

When tax-deferred space runs out and bonds have to sit in taxable, a high-bracket investor should look at tax-exempt municipal bond funds instead of taxable bonds.

Worked example: $100,000 portfolio, 60/40 stocks/bonds. Hold the $40,000 of bonds in the traditional IRA and the $60,000 of stocks in the taxable brokerage. If the bond fund yields 4%, that is $1,600 of interest a year that would have been taxed at the person's marginal rate (say 24%, or $384 a year) in taxable, and is now sheltered.

3. Harvest losses: tax-loss harvesting

Scan taxable accounts for positions sitting on unrealized losses, then:

1. Sell the loser. The realized loss offsets realized gains dollar for dollar.
2. Immediately buy a similar-but-not-identical replacement to keep market exposure. Example: sell VOO at a loss, buy IVV or SPLG the same day. ETFs from different issuers tracking the same index are generally treated as not substantially identical, though the IRS never gave a precise definition, so say that plainly.
3. Respect the wash-sale rule (IRC Section 1091). If the person buys a substantially identical security within 30 days before or after the sale (a 61-day window including the sale day), the loss is disallowed. The window covers every account they and their spouse control, including IRAs and 401(k)s. Turn off automatic dividend reinvestment in taxable accounts before harvesting, since a reinvested dividend counts as a purchase. A wash sale in a taxable account just defers the loss into the replacement shares' basis, but a wash sale triggered by buying in an IRA kills the loss permanently (Rev. Rul. 2008-5).

Leftover math: net capital losses beyond gains can offset up to $3,000 of ordinary income per year ($1,500 if married filing separately), and any excess carries forward indefinitely.

Worked example: a person realizes $8,000 of long-term gains this year and holds a taxable position down $5,000. Harvesting the loss leaves $3,000 of net gain to pay tax on. If they have no gains at all, the $5,000 loss offsets $3,000 of salary this year and $2,000 carries forward.

4. Time Roth conversions

A Roth conversion moves pre-tax money to Roth and the taxable portion is taxed as ordinary income in the conversion year. It pays off when the current tax rate on the conversion is lower than the rate that would apply later.

Good windows: early retirement years before Social Security and RMDs start, sabbaticals, job-loss years, any year with unusually low income.

How to size it: compute this year's room in the current bracket, then convert up to the top of it. A single filer in the 24% bracket ($105,701 to $201,775 of taxable income in 2026) with $160,000 of taxable income could convert about $41,000 at 24% instead of paying 32% or more later.

Traps to check before converting:

• Pro-rata rule. The IRS treats all traditional, SEP, and SIMPLE IRAs as one pot on December 31 of the conversion year (Form 8606). You cannot convert only the after-tax part. Rolling pre-tax IRA money into a 401(k) before year-end removes it from the pool, since employer plans are excluded.
• Five-year clocks. Each conversion starts its own 5-year clock for penalty-free withdrawal of the converted amount before age 59.5. Earnings need age 59.5 plus 5 years since the first Roth contribution to come out tax-free.
• Collateral effects. The extra income can push capital gains into a higher bracket, raise Medicare premiums (IRMAA), or reduce income-based credits. Check these before converting.

5. Sanity check

Before finalizing any plan, confirm: the person is not in the 0% capital gains band where harvesting gains for free would beat harvesting losses; conversions are not pushing them into a higher bracket than the one they are trying to avoid later; and nothing here depends on a number that changed since references/tax-tables-2026.md was last verified.

Output Contract

When asked for a tax-efficient investing plan, deliver:

1. Account map: which assets go in which account, and why, in one or two lines each.
2. Harvest list (taxable accounts only): positions with losses, the replacement to buy, and a wash-sale checklist (dividend reinvestment off, no matching purchases in any account within 61 days).
3. Conversion recommendation (if applicable): amount, which year's bracket it fits in, and the traps checked.
4. What you did not cover: a one-line disclaimer that this is educational, not tax advice.

Keep it short. Numbers in a small table, reasoning in plain sentences.

Operating Rules

1. Verify every number against references/tax-tables-2026.md or a fresh primary source. Never invent brackets, limits, or thresholds.
2. Tax-loss harvesting happens in taxable accounts only. It does nothing inside an IRA or 401(k).
3. State the wash-sale window as 61 days, every time you mention it. People default to thinking it is 30 days after the sale.
4. Never present the partner-ETF swap as IRS-blessed. Say the IRS has not defined "substantially identical" precisely.
5. Flag the IRA wash-sale trap explicitly: buying the replacement in an IRA within the window destroys the loss instead of deferring it.
6. When recommending a conversion, always name the bracket the conversion lands in and what rate the person would likely pay later. No bracket comparison, no recommendation.
7. End plans with the not-tax-advice line. No exceptions.