Why Avoiding Capital Gains Can Sometimes Cost You More

TL;DR

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A Kiplinger report describes how reluctance to pay capital gains taxes can leave investors holding concentrated positions even when those holdings no longer fit their financial plans. Advisers recommend weighing tax costs against portfolio risk and planning sales with financial and tax professionals.

A Kiplinger report warns that investors who hold appreciated assets mainly to avoid a tax bill can expose themselves to losses or portfolio risk that may outweigh the tax cost of selling. The report draws on an investor’s account and advisers’ examples to show how planned sales, diversification and long-range tax planning can help people weigh those competing costs.

The report’s author describes investing about $1,500 in Adobe in 2021 and watching the position grow to nearly $90,000. Because it was a high-income year, the author chose not to sell, citing the expected tax bill and concern that the shares might continue rising. Adobe shares later fell from their 2021 highs, and the author says the decision to wait now feels like a mistake. This is a personal account, not evidence that selling at a particular time would reliably produce better results.

Financial adviser Jason Lilly of Tenere Wealth Advisors told Kiplinger about a client with roughly $1 million invested in Apple. The client’s attachment to the company and recent stock performance made selling difficult. Lilly said he began by selling 100 shares from a 10,000-share holding at $290; when the stock later rose to $310, the client experienced seller’s remorse. Lilly said he framed the sale as a small step toward reducing concentration, not as a judgment about where the stock would go next.

Lilly said his team may help clients set a capital gains budget for the next one to three years, making taxable sales a planned part of financial management rather than an unexpected bill. The report also describes CPA John Barut’s work with a retired couple in their 50s who held about $7 million in traditional IRA assets. Barut modeled a multiyear Roth-conversion plan; the couple planned to convert $250,000 during the year covered by the report and pay income tax on the conversion. These examples involve different tax rules and are not recommendations for every investor.

Tax Bills Versus Portfolio Risk

The central trade-off is between a tax cost that may be due upon sale and the risk of continuing to hold an asset that has become too large a share of a portfolio. Avoiding a realized gain does not remove investment risk: a concentrated position can fall in value, and its performance may no longer match an investor’s needs or risk tolerance. At the same time, selling can trigger taxes, so the report does not present avoiding taxes as inherently wrong.

The practical point is to include taxes in a broader decision rather than letting them dictate it. A planned sale may reduce concentration or bring a portfolio closer to its intended allocation, while a tax professional can assess the likely consequences. Investors’ circumstances differ, and investment values can rise or fall; no particular sale or conversion is guaranteed to improve results.

How Tax Lock Can Develop

The report describes a behavior sometimes called the tax-lock effect: an investor keeps an appreciated holding because selling would trigger taxes, even if the investment no longer fits the person’s plan. It also points to loss aversion, a concept associated with psychologists Daniel Kahneman and Amos Tversky. In broad terms, people may experience a certain, immediate tax payment more sharply than a possible future loss from holding a risky asset.

Other factors can reinforce the reluctance. An investor may feel attached to a company, take a recent rise as a sign that gains will continue, or worry about selling just before a further increase. Lilly’s Apple client illustrates how those reactions can operate together, according to the adviser. The author’s Adobe experience is a separate personal example; neither account establishes a general forecast about either company’s shares.

The report also distinguishes taxable investment sales from retirement-account planning. Roth conversions move money from a traditional IRA to a Roth IRA and generally involve income tax on the converted amount; the example’s proposed $250,000 conversion is a couple-specific plan. The report says long-range modeling can consider conversions alongside charitable giving, Social Security decisions, required minimum distributions and tax-bracket management.

““I continue to underscore the importance of having a highly diversified portfolio and a comprehensive financial plan.””

— Jason Lilly, as quoted by Kiplinger

Individual Tax Outcomes Vary

The report does not provide enough information to calculate the tax due in the Adobe or Apple examples, including each investor’s cost basis, holding period, filing status, other income and applicable tax circumstances. It also does not establish whether selling at the time described would have left either investor better off after taxes and subsequent market movements.

The couple’s planned Roth conversion is likewise specific to their finances. The source does not provide the full modeling assumptions or the eventual tax outcome. A conversion, sale or charitable strategy can have different consequences depending on an individual’s circumstances, and future investment returns and tax rules are uncertain.

Plan Sales With Tax Advice

The report recommends treating possible capital gains as part of a forward-looking plan. Investors considering a sale can review how much of their portfolio is concentrated in one holding, whether that holding still fits their goals, and what the tax effect could be before acting. Lilly’s approach of setting a gains budget over one to three years is one example, not a universal threshold.

For complex retirement or estate plans, the report says coordination among a financial adviser, CPA and estate-planning attorney can help show how decisions interact over time. Investors should seek advice based on their own facts before making taxable sales or retirement-account conversions. The source does not identify a forthcoming policy change or market event; the next step in the examples is individualized planning and implementation.

Key Questions

What does it mean to be tax-locked into an investment?

It describes holding an appreciated asset mainly to avoid the tax triggered by selling, even when the position may no longer fit an investor’s risk tolerance or allocation. The Kiplinger report uses the term to describe a behavioral pattern, not a tax rule.

Does avoiding capital gains always cost more?

No. The report says avoiding tax can sometimes contribute to a worse decision, particularly if it leaves an investor with an unsuitable concentration. Whether selling makes sense depends on the tax consequences, investment risks and personal circumstances.

What is a capital gains budget?

In the report, it is a planned amount of gains an investor is willing to realize over a set period, such as one to three years. It can make taxable sales part of a plan, but it does not determine the right amount for every person.

Why might retirees consult a CPA about Roth conversions?

A CPA can help model how a conversion may affect taxes over time, including alongside required minimum distributions and other retirement decisions. The report’s example involved a couple with about $7 million in traditional IRA assets, so it should not be treated as a template for other households.

Source: rss