As a concept tax loss harvesting is a strategy where investors can reduce their tax burden by selling investments at a loss to offset realised capital gains in that same financial year.
This applies only to capital assets like stocks and mutual funds, where realised losses can be used to offset realised short term or long term capital gains.
Let’s see it with an example:
Assume you hold 1,000 units of Scrip 1, currently trading at ₹400, with an investment value of ₹200 per unit. When you sell it, you realise a long-term profit of ₹2 lakh. Under the new tax rules, ₹1.25 lakh of LTCG is exempt, so you pay tax on the remaining ₹75,000, which equals ₹9,375.
Now suppose you also hold 1,000 units of Scrip 2, trading at ₹100, down from your purchase price of ₹150 — an unrealised loss of ₹50,000. If you have lost confidence in this fund, you may sell it to realise the loss and either reinvest elsewhere, or buy the same fund back after a few days. This ₹50,000 realised loss reduces your taxable gain to ₹25,000, cutting your tax to ₹3,125.
Word of caution: When you sell and repurchase to harvest a loss, your new cost price resets lower. This can increase future tax if the investment recovers.
Extending the example: if you repurchase Scrip 2 at ₹100, your new investment is ₹1,00,000. If next year it rises back to ₹150 and you sell, your gain becomes ₹50,000 (taxable if total LTCG > ₹1.25 lakh), whereas it would have been zero if you hadn’t harvested earlier.
Therefore, the decision to harvest losses should be made after considering both your investment conviction and your expected withdrawal timeline.