Is it a good time to offset capital gains against your losses?
If you have money in a fund that is performing poorly, at some stage you may decide it is time to cut your losses. And as the end of the tax year looms, many investors will probably think it is a good time to sell a dud so they can reduce their tax bill.
But that will be possible only if you have made a capital gain against which you can offset the loss.
A capital loss cannot be offset against income from other sources, explains the tax office. So you can't offset a capital loss from selling an investment against your salary, for example.
But if you sell an investment for a $100,000 gain and lose $20,000 on another investment, your capital gain is reduced to $80,000 and capital gains tax (CGT) will be based on that lower amount.
A loss may be carried forward to offset future gains, so if you don't have a capital gain this year you can use the loss to offset a future gain. There is no time limit on carrying forward the loss.
Of course, tax benefits should never be the basis for an investment decision. If you're thinking about selling out of a fund - regardless of whether or not it could reduce your CGT bill - there are a number of issues to consider before filling out your withdrawal form.
One question to ask yourself is whether the poor performance has been over the short term or a longer period; if it is only over a year or two, you may want to give it a chance to recover. And also look at the possible reasons for the underperformance - it may just be market-related, for example. Make sure you're also comparing its performance with those of equivalent funds. If a fund is consistently performing badly compared with similar funds over four or five years, it could signal problems with its people or investment processes.
You may also decide to cut your losses if a key investment manager leaves or there are other changes to the team. The loss of a key manager can have a serious impact on a fund's performance. If the fund has already suffered as a result of such a change, it may be time to make a move.
Another possible reason to sell is that the investment strategy has changed - for example, if a fund changes its focus from shares in major companies to include smaller and emerging companies. This may no longer suit your needs so could be a reason to reassess your investment.
Poor returns can also be the result of a major organisational change, such as a takeover or merger. If that's the situation, it can be a strong case for selling.
If you've weighed up all the factors and still want to sell, it's as simple as filling in a withdrawal or redemption form usually available on the fund manager's website. Check whether there's an exit fee.
It's also a good idea to think about what you will do with the money when you sell. It pays to have a plan rather than letting it languish in a low-paying cash account.