No. of Recommendations: 5
A tax inefficient good investment is usually better than a tax efficient bad investment.
This is so true, and people should really internalize it. We see so many people desperately resort to 1031 exchanges when they sell real estate to avoid the capital gains taxes, and they often end up in substandard investments that cause future losses that exceed those taxes had they been paid.
My usual reminder to people unduly worried about realizing gains and paying tax by switching investments half way through one's savings life: remember that even if you pay a big chunk of tax, you're not losing that money, you're paying it sooner as you'd have to pay it eventually anyway. (barring some country-specific exception cases).
The USA has a HUGE exception in that assets held through death simply have their basis reset ("basis step up") to the value at the time of death thus escaping capital gains taxes completely.
There is a big difference between losing a million, versus paying out a million 10-15 years earlier than you otherwise might have.
I think inflation plays into the calculation here. And it is part of what makes levying taxes on the entire gain somewhat unfair. Take, for example, someone who invested $100,000 a long time ago, and saw it grow only modestly, let's say at the rate of inflation (200%) plus 30% over the entire period. So, that asset is now worth $330,000 ($100,000 + 230%). At 23.8% capital gains tax rate, the capital gains tax due would be $54,740, and the net value of that investment would now be $330,000 - $54,740 = $275,260.00. That means that net-net, this investment after disposal is worth less in real terms than it was at the start. All because of the taxes on the inflation component of the "gain". And the same often applies to annual interest as well - would you rather get 1% interest with 0% inflation, or 5% interest with 4% inflation? The first case (1% interest) results in roughly 0.75% interest net real yield after taxes, while the second case (5% interest) results in -0.25% net real yield after taxes. Again, because the inflation component of the gain/yield is also taxed.
But tax is certainly a real thing.
It sure is! Over the years, I calculate my net worth as stock A price x number of A shares + stock B price x number of B shares + cash + fixed income investments + etc. But late last year, I sold a large number of shares of a stock and realized a very large capital gain for 2024. In 3 days I will have to pay a very large estimated tax payment which will directly reduce my net worth by the amount of that tax payment. So maybe net worth should be calculated after subtracting likely taxes from the holdings? I don't know.
