Tax loss harvesting with bond ETFs

• With the rise in interest rates, core and core plus bond, long duration and high yield funds have had on average a negative price return.
• On average, core bond funds have been down 15% on a price return basis over the 3-year period ending July 31, 2024! Learn why it’s price return, not total return, that matters for taxes.¹
• There is still an opportunity for clients to potentially limit tax liabilities and reposition portfolios while tax loss harvesting in fixed income.

While bonds have bounced back in 2024 after three consecutive years of poor performance, this year still presents an opportunity to tax loss harvest any losses and offset gains to potentially help lower clients’ tax bills in 2024, and potentially beyond.

Tax loss harvesting is a strategy of selling investments for a loss and using those losses to reduce tax liability on other capital gains in the portfolio and/or to offset up to $3,000 in ordinary income. These losses can be carried forward and realized in future years as well.²

In 2022-2023, the Fed increased interest rates 11 times, bringing the overnight rate from 0.0%-0.25% to 5.25%-5.50%.³ Many bond funds saw negative price returns as interest rates rose (a bond’s price moves inversely to its yield, which has generally risen in tandem with the fed funds rate).

With interest rate volatility, there are still opportunities to harvest losses in some fixed income categories. As of July 31, 2024, most bond funds still have negative price losses on a 3-year and 5-year basis.⁴ Depending on a client’s specific entry point, the positions may have price losses over the past year.

Bond total returns include any changes in the price of the bond plus income distributions. The price return just includes the change in bond prices. Said another way, to find price return, you subtract capital gains and income distributions from total return. While income and capital gains are taxed in the current tax year, the price return represents a future tax liability. Funds with negative price returns could be candidates for tax loss harvesting.

Since bond funds tend to distribute the bulk of their return in income distributions, their price return may be well below their total return. This is the critical insight that can unlock tax loss harvesting opportunities.

Step 1: Identify funds with price losses and consider selling them 

Advisors may recommend clients consider harvesting losses from their bond funds with negative price returns. Check out BlackRock’s Tax Evaluator tool to help you identify funds with negative price returns. The tool shows the size and pending capital gain distribution for 7,000 funds and can help advisors quickly identify funds with price losses over 1-, 3-, 5-, and 10-year periods.

Hypothetical example: $100k initial investment in a bond fund with a $10k loss

Step 2: Consider reinvesting to help clients stay on track

After harvesting losses in clients’ bond funds, take the opportunity to reassess their bond investments. If the bond mix looks right, keep existing exposures, and consider allocating the proceeds of the sale to a low-cost iShares ETF in the same Morningstar Category. The iShares Correlation tool can help you find a fund with comparable exposure and consider the degree to which the funds’ holdings may overlap for purposes of the wash sale rules.⁵ For context, wash sale restrictions prevent investors from realizing a loss on a sale and then buying a “substantially identical” security 30 days before and after the sale of the security. See the table below for a tax loss harvesting framework and footnote 5 at the end of this article for more information on the wash sale rule.

Tax loss harvesting framework:

Hypothetical example: Put $100k back to work in your portfolio via iShares bond ETFs.

You can also consider reallocating to innovative strategies like active ETFs to keep clients invested. Active ETFs combine expert portfolio management together with the potential tax efficiency, convenience, and transparency of the ETF wrapper.

Step 3: Potentially lower your clients’ April 2025 tax bills

 Help offset gains from other investments now or in the future, reducing taxes owed, or help offset up to $3,000 per year in ordinary income.⁶

Hypothetical example: Offset $10k portfolio gain or ordinary income.

The impact of taxes should be a year-round conversation with clients and the CPAs within your network. BlackRock can be your partner in delivering more tax efficient portfolios through our extensive platform of strategies, technology, and tools such as our Tax Evaluator.