Wall Street's New Tactic - Tax-Loss Harvesting Using Cryptos

Wall Street is upping its game in its tax-loss harvesting tactic.

Money managers' new play also uses crypto losses to cut taxes for their billionaire clients.

While tax-loss harvesting is an old legal game that uses a loophole in US capital gains rules, the big discovery now is using crypto losses to offset gains elsewhere.

It is a perfect setting for rich clients.

What is Tax-Loss Harvesting?

A tax-loss harvesting technique involves selling losing investments to offset the taxes due on profits from other parts of the portfolio.

A major drawback of this strong technique typically used in stock ownership, is that an investor doesn't necessarily have losses to harvest.

This may be particularly true, considering the US stock market has tripled in the last decade and is still setting records.

Cryptos in Tax-Loss Harvesting

So, money managers have jumped right into using cryptos to overcome this challenge.

One way investors can lower their total tax burden is by selling cryptocurrencies at a loss and using the proceeds to offset gains from other trades.

This method is called crypto tax loss harvesting. Investors often employ this strategy when they want to see how much they've made for the year or when the market is down, and their losses are bigger.

Using leverage in an individual's investing account to wager on certain cryptos while avoiding others is the hallmark of the entirely legal strategy, which combines elements of both hedge funds and personalised portfolios.

Even though making money is the ultimate objective, some of the hundreds of positions may incur losses that can be harvested using this strategy.

This strategy worked in 2022 since the cryptocurrency market continued to fall; at the end of the year, Bitcoin was worth less than $17,000, down from $47,000 at the start of the year.

Nevertheless, harvesting losses during favourable market stages may be dangerous, especially if the "wash-sale" rule is applied to cryptocurrencies in the years to come.

Still, like real estate or equities, cryptocurrency is considered a capital asset.

Only when you sell, trade, or spend cryptocurrency do you incur a capital gain or loss.

Thus, you have yet to experience the loss of value associated with owning an asset due to crypto.

There are tax advantages to reporting capital losses from cryptocurrency on your return.

Gains in other capital assets, such as equities, can be countered by a total loss in cryptocurrency. A maximum of $3,000 might be deducted from your taxable income. Alternatively, you can deduct future capital gains on that loss, regardless of whether they are crypto-related or not.

There is no cutoff date for losses that may be used to offset future gains or income, so you can still reap the benefits of loss harvesting even if you don't have any capital gains to offset in a given year.

Tax-Loss Harvesting and Income Disparity

Still, this is the type of cunning Wall Street move that will furious everyone worried about growing wealth disparity.

Like other types of tax-loss harvesting, these crypto techniques are out of reach for most investors.

The wealthy often reap the biggest benefits.

Although the underlying idea that Americans are exempt from paying capital gains taxes until they decide to sell an item has withstood several challenges, President Joe Biden has suggested taxing the super-rich's unrealised earnings.

Although Democratic candidate Kamala Harris has previously supported Biden's idea, she has been mute on whether she would pursue such a move if she takes the White House after the November 5 elections.

For the time being, the strategy of using digital assets is expanding at an astounding rate, thanks to record-high market prices and the AI boom, which has created a slew of new tech billionaires.

However, these individuals may soon face substantial tax costs if they decide to sell their highly valued equities.

This is especially true as the crypto industry has also profited significantly since the deep losses suffered after the collapse of FTX and crypto-related banks in the US.

Let's take Bitcoin, for example.

The top token has endured a tremendous rally over the past year, especially after the United States approved spot Bitcoin ETFs in January this year.

Bitcoin surged to a record high of nearly $74,000 in March, fueled by those ETF flows.

Now, bets on "Trump Trade" are now rekindling those highs again.

Bitcoin has doubled in value over the past year, which is a significant concern for money managers using cryptos as tax-loss hedges.

Not all crypto tokens have shown the same kind of rally.

Tax Long-Short Technique

Besides cryptos, money managers also use tax long-short techniques to harvest tax losses.

Tax long-shorts are more difficult, costly, and effective for people with large capital gains than other methods.

That is why those against wealth disparity have raised their voices against tax-loss harvesting as an important aspect of Wall Street's cunning.

Consider the shining example of American success in the twenty-first century to understand how a tax long-short works.

A tech billionaire from Nvidia, who, after years of gains, owns shares worth $1 million.

The billionaire seeks to diversify his portfolio away from its current concentration in a single stock by selling his shares and purchasing a tracker for the S&P 500 index.

Capital gains would be included in that transaction, which might result in a hefty tax burden.

Instead, the techie sets up a series of long exposures - bets on shares - and short exposures - bets against shares - using the $1 million in Nvidia as collateral.

Margin and short selling, not derivatives, are the means to that end.

With this portfolio, which usually consists of 130 per cent long and 30 per cent short, investors are more prone to losing positions and rapidly amassing them.

The sale of holdings allows one to realise these losses, as in earlier iterations of tax-loss harvesting.

Money managers reinvest the proceeds from sales in economically comparable assets to keep the portfolio balanced and book the losses to counterbalance any profits from other investments.

The techie may reduce his taxable income by progressively selling Apple shares and claiming the losses from the long-short approach.

To give context to the rise in tax-loss harvesting - separately managed accounts, which are investment vehicles overseen by expert money managers and may be tailored to each individual customer, are utilised in tax long-short strategies.

Although they have been around for a long time, mostly serving the needs of wealthy investors, their proliferation on Wall Street has resulted in a $3 trillion business, largely because of technical advancements that have made them more accessible and simpler to administer.

Cryptos are now the new added layer to tax-loss harvesting, albeit the amount is quite low when considering the huge capital gains tax.

However, using multiple cryptos across regions outside of US borders also gives money managers more leeway in using digital assets as an instrument for tax-loss harvesting.

Money managers are also using the long-short approach in cryptos now.

Bridging the Gap: How AI & Blockchain Are Shaping the Digital Assets Landscape (Report)

As two of the most significant technological advancements of our time, AI and blockchain have historically developed independently but are now increasingly integrated to address each other's limitations. This convergence represents a significant shift in how digital ecosystems can be structured and governed. This report, jointly produced by Blockhead and BRN, covers the diversity of solutions, the technical challenges they try to overcome, and the still early stage of their development.

We also propose a framework to grasp the complexity of AI-blockchain technologies, with a taxonomy methodology that can help find the factors that differentiate the economic nature and potential of AI tokens. We found that price movements are still being mostly driven by general crypto and AI perceptions of value and potential, with more fundamental-driven behaviors to be expected with the growth in adoption and usage.

X Spaces: Trading the Presidential Election

Catch Valentin Fournier, BRN lead analyst, on X Spaces later today (Nov 6th, 1 PM UTC/9PM SGT) for a discussion on "Trading the Presidential Election Results," with Lin Chen, Institutional Sales (APAC), Deribit; Marty, Retail Trader & KOL, Premia; and Augustine Fan, founding partner, SOFA.org. Organized by Signal Plus and Deribit Exchange.

Elsewhere

Events

Singapore Fintech Festival (Singapore 6-8 November 2024)

As 2025 approaches, financial leaders face the challenge of navigating a landscape transformed by AI, data, and digital platforms that are rewriting the rules of global trade, commerce and financial services.

At the Singapore FinTech Festival 2024, hear from global leaders at Microsoft, Goldman Sachs, PayPal, and Tencent, and more, as they share the strategies shaping the future of finance.With 66,000+ participants from 150 countries and 10,000+ organisations, everyone who's anyone is here.

Click to see who’s attending and who you can network with at #SFF2024! Blockhead is proud to offer a 20% discount on tickets via this link.

GeckoCon (Bangkok, 11 November 2024)

GeckoCon returns, and this year we're diving into the revolutionary world of Web3 Gaming! Discover how the fusion of blockchain and traditional gaming is creating a whole new entertainment layer.Don't miss out—visit CoinGecko now to secure your spot in our first ever Hybrid Conference set to take place in Bangkok, Thailand. Or from the comforts of your home! 

Get your tickets now with Blockhead's 40% code: BHGC24
[Limited to 30 redemptions, expires 31 October 2024]

[Redacted] (Bangkok, 9-11 November 2024)

The [REDACTED] conference is bringing together the brightest minds in technology for a transformative three-day event from November 9-11, 2024, at the Avani Riverside hotel. This gathering will take place just ahead of Devcon and promises to be a pivotal moment for the convergence of artificial intelligence and Web3.

Interested readers can apply for free tickets here, and sign up for the hackathon here. 

Devcon (Bangkok, 12-15 November 2024)

Following Devcon Bogota in 2022, the Ethereum Foundation is set to host Devcon SEA, the 7th edition of its premier developer and community conference.

This landmark event is expected to bring together a diverse group of individuals, including developers, researchers, academics, and community members, to explore the future of Ethereum and its potential to reshape society.

Tickets are available here, with discounts for local builders, students and teachers, and youth.

Consensus (Hong Kong, 18-20 February)

Consensus is heading to Hong Kong, bringing together the industry’s most important voices from East and West for pivotal conversations and deal-making opportunities.

Consensus Hong Kong convenes global leaders in tech and finance to debate pressing issues, announce key developments and deals, and share their visions for the future.

Use promo code BLOCKDESK20 at checkout for a 20% discount on tickets here.

Restaking & Infra Day (Bangkok, 12 Nov)

Restaking & Infra Day is a full day of keynotes, workshops and panel discussions about recent advancements in the restaking field:

• ​Liquid restaking and staking;
• ​Oracles and other AVSs;
• ​ZK Coprocessors and Layer 2 solutions;
• ​Restaking on BTC, Cosmos and other chains;
• ​Security and risks of restaking.

​​What to expect:

• ​15+ speakers
• ​250+ attendees
• ​Excellent networking opportunities

Blockhead readers can get 20 free tickets with the coupon code BLOCKHEADLOVE. You can use them after choosing the "guaranteed seat" option, in the "Add a coupon" field.

Be the first one to grab a free ticket:https://t.ly/ZP-pE

It's All Happening on LinkedIn

Did you know you can now receive Blockhead's juicy daily newsletters directly to your LinkedIn? Subscribe to our LinkedIn newsletters for the latest news and insights in the world of Web3!
There also might be the occasional discount code for the industry's hottest events, exclusively for subscribers. So be sure to sign up!

Subscribe on LinkedIn