Should I sell taxable mutual funds using Specific ID or Average Cost?

[rerod]

Hello group.. I have a question about selling because I retired a few weeks ago..

I'd like to sell some taxable VTIAX, but I'm reading on another forum that I should choose “Specific ID”, but don't understand the advantage, and what the difference is from selecting "Average cost".
Or a even better question would be, how much money could I stand to lose using average cost instead of Specific ID? I don't get it..

Crazy, because Ive been paying taxes on these mutual funds out of my pocket for years and thought I would just have to catch up on them when I sold.. But now this Specific ID vs Average Cost situation has me frustrated and confused.. Pay in and pay out??
From what I understand, I get to select specific lots of shares and I would want to pick lots that are worth the most?? But wouldn't it all average out in the end after the fund was sold using average cost? I'm missing something..


Thanks!

[Jluke]

SpecID is good for when you want to sell and minimize your tax burden.

you want to identify those lots (share purchases) that are short term vs long term. This plays into tax burden where short term gains are taxed higher.


you would start by selling any lots that have a loss (tax loss harvesting).

If you need to sell more to reach your target amount, next you would want to pick lots that have minimal gains to offset any losses and to further minimize the tax burden. (Tax gain harvesting)

be sure you have accounted for the tax you will owe, if any, for the sales

[rerod]

SpecID is good for when you want to sell and minimize your tax burden.

Thanks Jluke..
Everyone would like to minimize tax burden, so why would anyone choose average cost? Is it the situation? Like if someone has more money than they will ever need, kick the tax burden can down the road and make junior pay it? That sounds the opposite of buy low sell high.. All the tax burden has to be payed eventually if you sell it all, so it sounds like your only delaying the inevitable using specID..

you want to identify those lots (share purchases) that are short term vs long term. This plays into tax burden where short term gains are taxed higher.

So step one is always sell the oldest shares first when picking lots to sell.. So why not use "first in first out" FIFO?

you would start by selling any lots that have a loss (tax loss harvesting).

What if the shares all have gains? Ive never tax loss harvested, the gains sound minimal and I don't fully understand it either

If you need to sell more to reach your target amount, next you would want to pick lots that have minimal gains to offset any losses and to further minimize the tax burden. (Tax gain harvesting)

be sure you have accounted for the tax you will owe, if any, for the sales

Frankly, specific id and trying to determine which shares to sell first sound daunting. Are you saying if I use Average Cost, it may actually make my tax burden higher in the end?

My tax preparer uses figures provided by vanguard.

Thanks

[Jluke]

I did a quick search on bogleheads “SpecID vs Average” and would recommend you read through a few of those threads as they will be more informative than anything I could post in response.

one interesting thing is that if you have ever sold the fund using average, then you are locked in to that going forward.

SpecID can also be challenging if your brokerage didn’t record the tax lots as this was not a requirement before a certain year (2012)

bogleheads tend to do things to the extreme so keep that in mind.


here’s one:

https://www.bogleheads.org/forum/viewtopic.php?t=377823

I figured there was a chance you might not have any purchases showing a loss but in a weird way the bogleheads get excited selling for a loss so they can claim that on their tax return (up to $3000 but you can carry greater losses forward). For people in high tax brackets (30-ish%) that can mean about $900 saved on taxes.

[kork13]

I have mostly used SpecID to minimize tax impacts as JLuke mentioned, but I've also done FIFO. I would never want to use Average, because as he just mentioned, once you do Average, you can never do anything else. If you're using Vanguard, SpecID is not hard at all. They have records for each purchased lot, and when you specify you want to do SpecID, the next screen asks you to select the lots to sell. There's a chart listing all of the lots, including the cost basis & gain/loss estimate. If you're looking to minimize taxes, you can just look at the gain/loss column & select the lots that are negative or least positive. At the bottom of the chart I believe it also tallies the total estimated value of what you're selling & if it's a net loss or gain.

I sold a couple things recently, and discovered that Vanguard now offers another option, something along the lines of "Minimize Taxes" -- basically they do this tax avoidance process automatically, and select the lots that will have the smallest tax ramifications. If you don't want to handle SpecID, you might try using that option.

[rerod]

If you're using Vanguard, SpecID is not hard at all. They have records for each purchased lot, and when you specify you want to do SpecID, the next screen asks you to select the lots to sell. There's a chart listing all of the lots, including the cost basis & gain/loss estimate. If you're looking to minimize taxes, you can just look at the gain/loss column & select the lots that are negative or least positive. At the bottom of the chart I believe it also tallies the total estimated value of what you're selling & if it's a net loss or gain.
.

This is golden.. So it's as simple as choosing a lot from the gain/loss column that are the most negative or least positive? Ignore all other numbers? That's easy, but do I want to pick from both sides, so my net loss or gain is $0?

The bogleheads don't like Minimum tax method or MinTax.. If I had time, Id do more reading on this, but I need to buy a tractor, yesterday..

I did a quick search on bogleheads “SpecID vs Average” and would recommend you read through a few of those threads as they will be more informative than anything I could post in response.
one interesting thing is that if you have ever sold the fund using average, then you are locked in to that going forward.
SpecID can also be challenging if your brokerage didn’t record the tax lots as this was not a requirement before a certain year (2012)
bogleheads tend to do things to the extreme so keep that in mind.
here’s one:

https://www.bogleheads.org/forum/viewtopic.php?t=377823

I figured there was a chance you might not have any purchases showing a loss but in a weird way the bogleheads get excited selling for a loss so they can claim that on their tax return (up to $3000 but you can carry greater losses forward). For people in high tax brackets (30-ish%) that can mean about $900 saved on taxes.

Well, you know more than I do at this point. Thanks for taking the time and I will have to ask if vanguard keeps track of specid transactions..

Seems to me you should only use average cost if selling the entire taxable fund. What other example would you use average cost easy button?

$900 saved on taxes a year? You have my attention, but how long does the paperwork take, and what software is the best for TLH? It's almost BS that this loop hole is only understood by the "extreme" boglehead type.. My tax lady had never heard of it..

[anhtuvp]

Specific ID lets you pick which shares to sell, good for tax planning. Average Cost just averages out all shares. Specific ID can save you on taxes by choosing high-cost shares first.

[Jluke]

Capital gain or loss is captured in schedule D and transferred to the 1040.

A different form is used where the tax lots and transactions are recorded to help complete schedule D

[kork13]

This is golden.. So it's as simple as choosing a lot from the gain/loss column that are the most negative or least positive? Ignore all other numbers? That's easy, but do I want to pick from both sides, so my net loss or gain is $0?

Yeah, that's pretty much it, assuming that minimizing your taxes owed is a priority for you. Caveat: 1 note below (talking about TLH -- gain offsets from losses only work up to a limit).

The bogleheads don't like Minimum tax method or MinTax.. If I had time, Id do more reading on this, but I need to buy a tractor, yesterday..

Yeah, it's not particularly clear exactly what Vanguard is doing, and I haven't looked into it closely enough yet. I haven't used it yet due to that ignorance.

Well, you know more than I do at this point. Thanks for taking the time and I will have to ask if vanguard keeps track of specid transactions..

They definitely do. With every purchase after 2012, they're required to maintain detailed transaction lot records for tax reporting. It has made SpecID (and general investment management) far easier than it used to be.

Seems to me you should only use average cost if selling the entire taxable fund. What other example would you use average cost easy button?

Yes, or you simply don't care about what happens with the taxes. I could see a theoretical scenario where you have long-term capital gains (LTCG) and a low taxable income, so any LTCG sales would be taxed at 0% ... So in that case,
it wouldn't matter if you used Average, because at that income level you're not paying any taxes.

$900 saved on taxes a year? You have my attention, but how long does the paperwork take, and what software is the best for TLH? It's almost BS that this loop hole is only understood by the "extreme" boglehead type.. My tax lady had never heard of it..

TLH is a long-standing option for managing tax implications from investments ... If your tax person hasn't heard of it before, you need to find a new tax person. TLH basically allows you to reduce your taxable investment gains with your taxable investment losses, dollar for dollar. So if you sell one stock that had a $600 loss and sell another that has an $800 gain, you only pay taxes on the $200 difference as a taxable gain. Now that there's a limit to how much losses you can use to offset gains ... I think it's still $3000. So yes it's a "loophole", but only a smallish one. It's very easy to handle -- Vanguard reports all of the gain/loss information on your 1099, and literally any tax software will handle the gain offset based on your losses with the Schedule D form.

[rerod]

Is this true?


The goal is to defer taxes as long as you can.. If you still own at death, it's stepped up and no tax ever on that gain for the heirs.

[kork13]

Is this true?

The goal is to defer taxes as long as you can.. If you still own at death, it's stepped up and no tax ever on that gain for the heirs.

Yes, that is true. When investments are inherited, the effective cost basis for the heir recipient is adjusted to be whatever their value was on the exact date that the assets are inherited. It basically means that whenever the heir sells those taxable investments, they would only pay taxes on the capital gains that occurred after receiving the inherited assets. I wouldn't necessarily say that deferring as long as possible is "THE goal" ... If you need/want to use your investments for some purpose prior to death, you should do that. But aiming for the stepped-up cost basis definitely "A goal" that's valid, if your intention is to leave taxable investments to your heirs.

[Jluke]

Step up basis for inheritance is true until the rule changes. Always a possibility.

another reason to control the amount of gains incurred during a sale of shares is to ensure that you do not bump yourself into the next tax bracket.

especially for those in the lower tax bracket where gains are taxed at 0%.

not sure about the higher end tax brackets as I am in the middle.

[rerod]

I understand now about my heirs. Makes sense why people would want to reduce burden, or kick the can down the road to the heirs.. Because your children won't have to pay your taxes! That's huge, because I could die while writing this sentence, but no reason to believe that. Good to know that all your tax burden is wiped clean, and is this where the phrase "worth more dead than alive" comes from?

I do need to sell some taxable MF's to retire early since I'm not touching my tiaacref tax deferred RA until 64. But if my taxable's keep performing like they have been, they might generate enough income to remain at the same value, so me using SpecID must save my heirs some taxes.. I'm still nervous about picking the correct lots having never performed that online.

All of my shares have gains, so I guess I will select lots with the least amount of gains. Easy right?

Can someone clarify when using SpecID that I need to select the lowest gain lots from the gains and losses columns, while also ensuring they are long term, or over a year old to minimize my tax burden please?

[Like2Plan]

I
All of my shares have gains, so I guess I will select lots with the least amount of gains. Easy right?

Can someone clarify when using SpecID that I need to select the lowest gain lots from the gains and losses columns, while also ensuring they are long term, or over a year old to minimize my tax burden please?

It sounds like you only have gains right now, so this does not apply…But, in the future if you want to do some tax loss harvesting be sure to turn off automatic dividend/capital gains reinvestment so you avoid any unintended wash sales.
(Also, make sure you not are automatically purchasing the same mutual funds across any of your tax advantaged accounts.)

In regards to your current situation- make sure you have selected SpecID before you start to sell anything.


If you look at your mutual fund (on Vanguard's site), there will be a link that says, "cost basis summary"
When you click on that, it will take you to another page, You are looking for a drop down menu that says, "show lot details"
There you will see all your lots, it will detail and gains or losses and whether it is short term or long term.