What Is Leverage in Finance? Leverage Defined

What Is Leverage in Finance?

Leverage in finance involves using a relatively small amount of capital to make larger trades or investments, increasing the potential of larger returns. In the world of finance, it’s critical to understand leverage if you plan to day trade or make other types of short-term investments, and the additional risks involved.

In general, leverage means doing a lot with a little. Think about how you may use an actual, physical lever to turn a switch, for instance. The switch itself may be small, and require a turn that’s a quarter of an inch to flip from off to on. But by using a lever — which is much bigger, physically, than the switch itself — the work becomes easier.

Key Points

•   Leverage in finance involves using a small amount of capital to make larger trades or investments, potentially increasing returns.

•   Leverage can be achieved through borrowing money or trading on margin, allowing investors to make increased dollar investments.

•   While leverage can amplify gains, it also magnifies losses and comes with additional risks and costs.

•   Different types of leverage exist, including financial leverage used by businesses to raise capital and operating leverage used to analyze fixed and variable costs.

•   Leverage can be used in personal finance, such as taking out a mortgage, and is also utilized by professional traders to potentially increase profits.

What Is Leverage?

In finance, leverage refers to using a small amount of capital to do a relatively big amount of work — making big investments with a small amount of money. The rest of the money used to make the investment is borrowed, or investors are trading on margin.

In short: Leverage is about borrowing capital to make bigger bets in an effort to increase returns.

How Leverage Works

In leveraged investing, the leverage is debt that investors use as a part of their investing strategy. While it’s easy to think that all debt is bad, in fact it can actually be useful when folded into a specific investing tactic, although it also introduces additional risks and costs.

Leverage typically works like this: A person or company wants to make an outsized investment, but doesn’t have enough capital to do it. So, they use the capital they do have in conjunction with margin (borrowed money) to make a leveraged investment. If they’re successful, the return on their investment is far greater than it would’ve been had they only invested their own capital.

The risk, of course, is that those returns do not materialize, putting the investor in debt. Investors will also need to consider how their overall costs could increase, as they’ll likely pay interest on the money they borrow, too.

Example of Leverage

Here is an example of how leverage could be used:

Let’s say that you found a startup. To get the company off the ground, you take in $10 million from investors, but you want to expand operations fast — hire employees, ramp up research and development efforts, and build out a distribution network.

You can do that with the $10 million, but if you were to borrow another $10 million, you would be able to double your efforts. That would allow you to hire more employees, improve your products faster, and distribute them further and wider, though you’d need to pay interest on the loan, too, factoring into overall costs.

That $10 million you borrowed is allowing you to do more with less. Of course, you run the risk that the company won’t be able to sustain a quick growth pace, in which case you may not be able to pay back the loan, or end up paying additional costs for interest and fees. But if things do work out, you’d be able to grow faster and accrue more value than if you hadn’t taken on any additional debt.


💡 Quick Tip: Are self-directed brokerage accounts cost efficient? They can be, because they offer the convenience of being able to buy stocks online without using a traditional full-service broker (and the typical broker fees).

Pros and Cons of Leverage

On the surface, leverage can sound like a powerful tool for investors — which it can be. But it’s a tool that can cut both ways: Leverage can add to buying power and potentially increase returns, but it can also magnify losses, and put an investor in the hole.

What’s important to remember is that there are both pros and cons to a tool like leverage.

Pros of Leverage

Cons of Leverage

Adds buying power Increased risks and costs
Potential to earn greater returns Leveraged losses are magnified
For investors, it’s generally easy to access It can be more complex than meets the eye

Leverage vs Margin

Margin is a type of leverage that is specifically tied to use in the financial markets by investors. It is basically like a line of credit for a brokerage or investment account.

Here’s how margin works: An investor has a cash balance, which acts as collateral, and there are interest rates at play, like any other type of loan. With a margin account, investors can tradesome, but not all stocks or other assets on margin.

Using margin, an investor can effectively supercharge their potential gains or losses. It’s also important to note — and it’s worth repeating over and over — that using margin as an investor can increase overall costs and risks. Not every investor will be comfortable assuming those risks and costs (such as interest charges), so you’ll want to know what you’re doing before using margin.

Margin and leverage are related, and it’s easy to confuse the two. Even if you know what margin trading is and how margin accounts work, it’s important to make sure you know what the differences are. This chart should help.

Leverage vs Margin

Leverage

Margin

A loan from a bank for a specific purpose A loan from a brokerage for investing in financial instruments
May involve a cash injection to be used for a specific purpose No cash is exchanged; acts as a line of credit
Can be used by businesses or individuals; May take the form of a mortgage or to expand inventory Can be used to create leverage and increase investment buying power

Types of Leverage

So far, we’ve mostly discussed leverage as it relates to the financial markets for investors. But there are other types of leverage, too.

Financial Leverage

Financial leverage is used by businesses and organizations as a way to raise money or access additional capital without having to issue additional shares or sell equity. For instance, if a company wants to expand operations, it can take on debt to finance that expansion.

The main ways that a company may do so is by either issuing bonds or by taking out loans. Much like in the leverage example above, this capital injection gives the company more spending power to do what it needs to do, with the expectation that the profits reaped will outweigh the costs of borrowing in the long run.

Operating Leverage

Operating leverage is an accounting measure used by businesses to get an idea of their fixed versus variable costs.

When discussing financial leverage, math needs to be done to figure out whether a company’s borrowing is profitable (called the debt-to-equity ratio). When calculating operating leverage, a company looks at its fixed costs as compared to variable costs to get a sense of how the costs of borrowing are affecting its profitability.

Leverage Investing

Leverage trading is the use of borrowed money to try and increase profits or returns. A company can use leverage investing by purchasing a new factory, allowing it to expand its ability to create products, and as such, increase profitability. An individual investor can borrow money to buy more stocks, increasing their potential returns.

It’s important to keep in mind, though, that leverage trading, or the use of borrowed money to invest, increases overall costs for investors, as they will need to pay interest on the money they borrow, and may be subject to other fees, too.

With that in mind, there are a few ways that leverage can be used in investing, either by individuals, or organizations.

Buying on Margin

Margin is a form of leverage, and trading on margin means that an investor is using money borrowed from their brokerage to execute a trade. In other words, an investor is borrowing money from their trading platform or brokerage — paying an applicable interest rate to do so, which can vary and should be considered as a part of overall trading costs — and making trades with it. It’s similar to using a credit card for investing, in some ways.

Given that margin concerns interest charges and additional costs, using it to trade or invest involves additional risks, particularly for inexperienced investors.

Leveraged ETFs

ETFs, or exchange-traded funds, can also have leverage baked into them. Leveraged ETFs are tradable funds that allow investors to potentially increase their returns by using borrowed money to invest in an underlying index, rather than a single company or stock. Leveraged ETFs utilize derivatives to increase potential returns for investors.

Using Borrowed Money to Invest

While many investors utilize margin, it’s also possible to borrow money from an outside source (not your broker or brokerage) to invest with. This may be appealing to some investors who don’t have high enough account balances to meet the thresholds some brokerages have in place to trade on margin. For example, a platform may require an investor to have a minimum balance of $25,000 in their account before they’ll offer the investor margin trading.

If an investor doesn’t have that much, looking for an outside loan — a personal loan, a home equity loan, etc.— to meet that threshold may be an appealing option.

But, as mentioned when discussing margin, borrowing money to invest can rope in additional risk, and investors will need to consider the additional costs associated with borrowing funds, such as applicable interest rates. So, before doing so, it may be a good idea to consult a financial professional.

Leverage in Personal Finance

The use of leverage also exists in personal finances — not merely in investing. People often leverage their money to make big purchases like cars or homes with auto loans and mortgages.

A mortgage is a fairly simple example of how an individual may use leverage. They’re using their own money for a down payment to buy a home, and then taking out a loan to pay for the rest. The assumption is that the home will accrue value over time, growing their investment.

Leverage in Professional Trading

Professional traders tend to be more aggressive in trying to boost returns, and as such, many consider leverage an incredibly important and potent tool. While the degree to which professional traders use leverage varies from market to market (the stock market versus the foreign exchange market, for example), in general most pro traders are well-versed in leveraging their trades.

This may allow them to significantly increase returns on a given trade. And professionals are given more leeway with margin than the average investor, so they can potentially borrow significantly more than the typical person to trade. Of course, they also have to stomach the risks of doing so, too — because while it may increase returns on a given trade, there is always the possibility that it will not.

Leveraged Products

There are numerous financial products and instruments that investors can use to gain greater exposure to the market, all without increasing their investments, like leveraged ETFs.

Volatility and Leverage Ratio

A leverage ratio measures a company’s debt situation, and gives a snapshot of how much debt a company currently has versus its cash flows. Companies can use leverage to increase their profitability by expanding operations, etc., but it’s a gamble because that profitability may not materialize as planned.

Knowing the leverage ratio helps company leaders understand just how much debt they’ve taken on, and can even help investors understand whether a company is a potentially risky investment given its debt obligations.

The leverage ratio formula is: total debt / total equity.

Volatility is another element in the mix, and it can be added into the equation to figure out just how volatile an investment may be. That’s important, given how leverage can significantly amplify risk.


💡 Quick Tip: When you’re actively investing in stocks, it’s important to ask what types of fees you might have to pay. For example, brokers may charge a flat fee for trading stocks, or require some commission for every trade. Taking the time to manage investment costs can be beneficial over the long term.

The Takeaway

Leverage can help investors, buyers, corporations and others do more with less cash on hand in their accounts at a given time. But there are some important considerations to keep in mind when it comes to leverage. In terms of leveraged investing, it has the potential to magnify gains — but also to magnify losses, and increase total costs.

Utilizing leverage and margin as a part of an investing or trading strategy has its pros and cons. But investors should give the risks some serious consideration before getting in over their heads. It may be a good idea to speak with a financial professional accordingly.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

What is leverage in simple terms?

In simple terms, the concept of leverage means to do a lot with a little. As it relates to finance or investing, this can mean using a small amount of capital to make large or outsized trades or investments.

What is an example of leverage?

An example of leverage could be a mortgage, or home loan, in which a borrower makes a relatively small down payment and borrows money to purchase a home. They’re making a big financial move with a fraction of the funds necessary to facilitate the transaction, borrowing the remainder.

Why do people want leverage?

Leverage allows investors or traders to make bigger moves or take larger positions in the market with only a relatively small amount of capital. This could lead to larger returns — or larger losses.


Photo credit: iStock/StockRocket

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Claw Promotion: Customer must fund their Active Invest account with at least $10 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

SOIN1023160

Read more
phone keyboard financial graph coffee mobile

How to Analyze Stocks: 4 Ways

When it comes to investing in stocks, there’s no single way to analyze stocks to find a sure winner. That being said, there are many methods that ordinary investors can use to find stocks that are trading at a discount to their underlying value.

The first step in how to analyze a stock before buying is reviewing financial statements. From there, investors can use various methods of analysis to assess investment opportunities and potentially identify worthwhile investments.

Key Points

•   There are four common methods of analyzing stocks: technical analysis, qualitative analysis, quantitative analysis, and fundamental analysis.

•   Technical analysis focuses on supply and demand patterns in stock charts to make investment decisions.

•   Qualitative analysis examines factors like a company’s leadership, product, and industry to evaluate investment opportunities.

•   Quantitative analysis uses data and numerical figures to predict price movements in stocks.

•   Fundamental analysis looks at a company’s financial health and value to determine if its stock is underor overvalued.

Why Analyzing Stocks Is Important

The process of stock analysis can reveal important information about a company and its history, allowing investors to make more informed decisions about buying or selling stocks. Analyzing stocks can help investors identify which investment opportunities they believe will deliver strong returns. Further, stock analysis can assist investors in spotting potentially bad investments.

Whether you’re strategy involves short vs. long term investing, or day trading, analyzing stocks is going to be important.

💡 Quick Tip: The best stock trading app? That’s a personal preference, of course. Generally speaking, though, a great app is one with an intuitive interface and powerful features to help make trades quickly and easily.

Understanding Financial Statements

The first step in understanding stock analysis is knowing the basics of business reporting. There are three main types of financial statements that an investor may need to look at when doing analysis:

•   Income statement: This statement shows a company’s profits, which are calculated by subtracting expenses from revenue.

•   Balance sheet: The balance sheet compares a company’s assets, liabilities, and stockholder equity.

•   Statement of cash flows: This statement outlines how a company is spending and earning its money.

In addition to these statements, a company’s earnings report contains information that can be useful for doing qualitative analysis. The annual report includes the company’s plans for the future and stock value predictions.

Get up to $1,000 in stock when you fund a new Active Invest account.*

Access stock trading, options, auto investing, IRAs, and more. Get started in just a few minutes.


*Customer must fund their Active Invest account with at least $10 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

4 Ways to Analyze a Stock

The next step in stock evaluation is deciding which type of analysis to do. Here’s a look at some of the different methods for how to analyze a stock.

1. Technical Analysis

Technical analysis is a method for analyzing stocks that looks directly at a stock’s supply and demand in order to make investing decisions. This form of analysis takes the stance that all information needed is present within stock charts and the analysis of history and trends.

Some key focal points of technical analysis are:

•   Stock prices move in trends.

•   History repeats itself.

•   Stock price history can be used to make price predictions.

•   Stock price contains all relevant information for making investing decisions.

•   Technical analysis does not consider intrinsic value.

Trend indicators are one of the most important parts of technical analysis. These indicators attempt to show traders whether a stock will go up or down in value. Uptrends mean higher highs and higher lowers, whereas downtrends mean lower lows and lower highs. Some common trend tools include linear regression, parabolic SAR, MACD, and moving averages.

Technical analysis also uses leading indicators and lagging indicators. Leading indicators signal before new trends occur, while lagging indicators signal after a trend has ended. These indicators look at information such as volume, price, price movement, open, and close.

There can be some pros and cons to using technical analysis, however, which can be important to consider when factoring in your risk tolerance.

Day traders tend to focus on technical analysis to try to capitalize on short-term price fluctuations. But because technical analysis generally focuses on short-term fluctuations in price, it’s not as often used for finding long-term investment opportunities.

Further, while technical analysis relies on objective and consistent data, it can produce false signals, particularly during trading conditions that aren’t ideal. This method of analysis also fails to take into consideration key fundamentals about individual shares or the stock market.

2. Qualitative Stock Analysis

When considering how to analyze a stock, it’s also a good idea to look at whether the company behind the stock is really a good business. Qualitative analysis looks into factors like a company’s leadership team, product, and the overall industry it’s a part of.

A few key qualitative metrics to look at are:

•   Competitive advantage: Does the company have a unique edge that will help it be successful in the long term? If a company has patents, a unique manufacturing method, or broad distribution, these can be positive competitive advantages.

•   Business model: Analyzing a business model includes looking at products, services, brand identity, and customers to get a sense of what the company is offering.

•   Strong leadership: Even a great idea and product can fail with poor management. Looking into the credentials of the CEO and top executives of a company can help in evaluating whether it’s a good investment.

•   Industry trends: If an industry is struggling, or looks like it may in the future, an investor may decide not to invest in companies in that industry. On the other hand, new and growing industries may be better investments. This is not always the case, as there are strong companies in weak industries, and vice versa.

3. Quantitative Analysis

Similar to technical analysis, quantitative analysis looks at data and numbers in an attempt to predict future price movements. Specifically, quantitative analysis evaluates data, such as a company’s revenues, price-to-earnings ratio, and earnings-per-share ratio, and uses statistical modeling and mathematical techniques to predict a stock’s value.

The upside is that this financial data is publicly available, and it creates an objective, consistent starting point. It can help with identifying patterns, and it can be useful in assessing risk. However, it requires sifting through a lot of data. Further, there’s no certainty when it comes to patterns, which can change.

4. Fundamental Analysis

Fundamental analysis looks at a company from a basic financial standpoint. This gives investors a sense of the company’s financial health and whether its stock may be under- or overvalued. Fundamental analysis takes the stance that a company’s stock price doesn’t necessarily equate to its value.

There are a number of key tools for fundamental analysis that investors might want to familiarize themselves with and use to get a fuller picture of a stock.

Earnings Per Share (EPS)

One of the main goals for many investors is to buy into profitable companies. Earnings per share, or EPS, tells investors how much profit a company earns per each share of stock, and how much investors are benefiting from those earnings. Companies report EPS quarterly, and the figure is calculated by dividing a company’s net income, minus dividend payouts, by the number of outstanding shares.

Understanding earnings per share can give investors guidance on a stock’s potential movement. On a basic level, a high EPS is a good sign, but it’s especially important that a company shows a high or growing EPS over time. The reason for this is that a company might have a temporarily high EPS if they cut some expenses or sell off assets, but that wouldn’t be a good indicator of the actual profitability of their business.

Likewise, a negative EPS over time is an indicator that an investor may not want to buy a stock.

Revenue

While EPS relates directly to a company’s stock, revenue can show investors how well a company is doing outside the markets. Positive and increasing revenues are an indicator that a company is growing and expanding.

Some large companies, especially tech companies, have increasing revenues over time with a negative EPS because they continue to feed profits back into the growing business. These companies can see significant stock value increases despite their lack of profit.

One can also look at revenue growth, which tracks changes in revenue over time.

Price-to-earnings (P/E) Ratio

One of the most common methods of analyzing stocks is to look at the P/E ratio, which compares a company’s current stock price to its earnings per share. P/E is found by dividing the price of one share of a stock by its EPS. Generally, a lower P/E ratio is a good sign.

Using this ratio is a good way to compare different stocks. One can also compare an individual company’s P/E ratio with an index like the S&P 500 Index to get a sense of how the company is doing relative to the overall market.

The downside of P/E is that it doesn’t include growth.

Price-Earnings-Growth (PEG) Ratio

Since P/E doesn’t include growth, the PEG ratio is another popular tool for analyzing stocks and evaluating stock performance. To look at EPS and revenue together, investors can use the price-earnings-growth ratio, or PEG.

PEG is calculated by dividing a stock’s P/E by its projected 12-month forward revenue growth rate. In general, a PEG lower than 1 is a good sign, and a PEG higher than 2 indicates that a stock may be overpriced.

PEG can also be used to make predictions about the future. By looking at PEG for different time periods in the past, investors can make a more informed guess about what the stock may do next.

Price-to-Sales Ratio (P/S)

The P/S ratio compares a company’s stock price to its revenues. It’s found by dividing stock price by revenues. This can be useful when comparing competitors — if the P/S is low, it might be more advantageous to buy.

Debt-Equity Ratio

Although profits and revenue are important to look at, so is a company’s debt and its ability to pay it back. If a company goes into more and more debt in order to continue growing, and they’re unable to pay it back, it’s not a good sign.

Debt-equity ratio is found by dividing a company’s total liabilities (debt) by its shareholder equity. In general, a debt-equity ratio under 0.1 is a good sign, while a debt-equity ratio higher than 0.5 can be a red flag for the future.

Debt-to-EBITDA

Similar to debt-to-equity, debt-to-EBITDA measures the ability a company has to pay off its debts. EBITDA stands for earnings before interest, tax, depreciation, and amortization.

A high debt-to-EBITDA ratio indicates that a company has a high amount of debt that it may not be able to pay off.

Dividend Yield

While a stock’s price can vary significantly from day to day, dividend payments are a way that investors can earn a consistent amount of money each quarter or year. Not every company pays out dividends, but large, established companies sometimes pay out some of their earnings to shareholders rather than reinvesting the money into their business.

Dividend yield is calculated by dividing a company’s annual dividend payment by its share price. The average dividend yield for S&P 500 companies is around 2%.

One thing to note is that dividends are not guaranteed — companies can change their dividend amounts at any time. So if a company has a particularly high dividend yield, it may not stay that way.

Price-to-Book Ratio (P/B)

Price-to-book ratio, or P/B, compares a company’s stock market value to its book value. This is a useful tool for finding companies that are currently undervalued, meaning those that have a significant amount of growth but still relatively low stock prices.

P/B ratio is found by dividing the market price of a stock by the company’s book value of equity. The book value of equity is found by subtracting the company’s total liabilities from its assets.

Company Reports and Projections

When companies release quarterly and annual earnings reports, many of them include projections for upcoming revenue and EPS. These reports are a useful tool for investors to get a sense of a stock’s future. They can also affect stock price as other shareholders and investors will react to the news in the report.

Professional Analysis

Wall Street analysts regularly release reports about the overall stock market as well as individual companies and stocks. These reports include information such as 12-month targets, stock ratings, company comparisons, and financial projections. By reading multiple reports, investors may start to see common trends.

While analysts aren’t always correct and can’t predict global events that affect the markets, these reports can be a useful tool for investors. They can keep them up-to-date on any key happenings that may be on the horizon for particular companies. The information in the reports also can result in stock prices going up or down, since investors will react to the predictions.

Quantitative vs Qualitative Analysis

Here’s a quick rundown looking at the key differences between quantitative and qualitative analysis. Again, this can be important when weighing your risk need to knows as an investor.

Quantitative vs. Qualitative Analysis

Quantitative Analysis

Qualitative Analysis

Looks at data and numerical figures to predict price movements Looks at business factors such as leadership, product, and industry
May require sifting through a lot of data, and may be difficult for some investors Metrics include business models, competitive advantage, and industry trends
Concerned more with the “quantity” and hard data a business produces Concerned more with the “quality” of a business

Pros and Cons of Doing Your Own Stock Analysis

If you feel like you can do a little stock analysis on your own, there are some pros and cons to it.

Pros

Perhaps the most obvious pro to doing your own stock analysis is that you don’t need to pay someone else to do it, you can do it on your own schedule, and learn as you go. You can develop knowledge that’ll likely help you as you continue to invest in the future. There are also numerous tools out there that you can use to analyze stocks which may not have been around in years or decades past.

Cons

Stock analysis can be an involved process, which can require a lot of investment in and of itself — both monetarily (if you’re using paid tools) and in terms of time. Depending on how deep you want to go, too, it can be a complex process. You may get frustrated or burnt out, or even make a mistake that leads to a bad investment decision.

💡 Quick Tip: Are self directed brokerage accounts cost efficient? They can be, because they offer the convenience of being able to buy stocks online without using a traditional full-service broker (and the typical broker fees).

Buying Stocks With SoFi

There are a number of ways to analyze stocks, including technical, fundamental, quantitative, and qualitative analysis. The more an investor gets comfortable with terms like P/E ratio and earnings reports, the more informed they can be before making any decisions. Stock analysis is an involved process, however, and may be above the typical investors’ head and ability.

It is important to do your research and homework in relation to your investments, however. If you feel like you could use some guidance or a helping hand, speaking with a financial professional is never really a bad idea.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

What is the best way to analyze a stock?

There’s no “best” way to analyze stocks. The right option for an investor will depend on their personal preferences and investing objectives. And remember, there’s no need to just use one method to analyze a stock — often, analysts will combine different methods of analysis to generate a more robust stock analysis.

What are key indicators to look for when analyzing a stock?

There are a ton of potential indicators that investors can look at, but some broad indicators that investors can start with include stock price history, moving averages, a company’s competitive advantages, business models, and industry trends.

What is an example of stock analysis?

A very, very basic example of stock analysis would include looking at a stock’s share price, comparing it to its historical averages and moving averages, overall market conditions, and looking at the company’s financial statements to try and gauge where it might move next.


SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Claw Promotion: Customer must fund their Active Invest account with at least $10 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

SOIN1222015

Read more
What Does It Mean If the Fed Is Hawkish or Dovish?

What Does It Mean If the Fed Is Hawkish or Dovish?

The Federal Reserve has two primary long-range goals: controlling inflation (hawkish) and maximizing employment (dovish). But these two aims can be at odds, and thus the Fed is often called hawkish or dovish.

While you may be thinking that monetary policy is for the birds, the Fed’s posturing, be it hawkish or dovish at any given time, is incredibly important for setting expectations and determining economic outcomes. That’s critical for investors to understand.

Key Points

•   The Federal Reserve has two primary goals: controlling inflation (hawkish) and maximizing employment (dovish).

•   Monetary policy decisions are made by the Federal Reserve, which can take a hawkish or dovish stance based on its goals.

•   Hawkish monetary policy focuses on low inflation and may involve raising interest rates, while dovish policy prioritizes low unemployment and may involve lowering rates.

•   The Federal Open Market Committee (FOMC), consisting of 12 members, is responsible for deciding monetary policy.

•   Hawkish and dovish policies can impact savers, spenders, and investors through changes in interest rates and economic outcomes.

Who Decides Monetary Policy?

The Federal Reserve, the central bank of the United States, decides monetary policy. And, as mentioned, it can take different postures in achieving its goals. In fact, the Fed is striving to balance what can seem like opposing scenarios. For example:

•   A monetary hawk is someone for whom keeping inflation low is the top concern. So if the Federal Reserve seems to be embracing a hawkish monetary policy, it might be because it’s considering raising interest rates to control pricing and fight inflation.

•   A dove is someone who prioritizes other issues — especially low unemployment over low inflation. If the Fed seems to tilt toward a dovish monetary policy, it could signify that it plans to keep rates where they are — at least for the time being — because growth and employment are doing fine. Or it may plan to lower rates to stimulate the economy and add jobs.

It’s important to note that the Federal Reserve’s decisions on monetary policy aren’t left to just one person.

People often blame the sitting president or the chairman of the Federal Reserve if they don’t like the way interest rates are going — whether that’s up or down. But the Fed’s direction is determined by a group of central bankers, not by the Fed chair alone.

The 12 members of the Federal Open Market Committee (FOMC), who typically meet eight times a year to review economic conditions and vote on the federal funds rate, are responsible for deciding the country’s monetary policy. And they may have varying opinions about what the economy needs. So you might hear that the Fed is hawkish or dovish, or you may hear that an individual policymaker — or policy influencer — is a hawk while another is a dove.


💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

Why Would the Fed Take a Hawkish Stance?

When fiscal policy advisors in the government or banking industry are described as favoring a hawkish or “contractionary” monetary policy, it’s usually because they want to tighten the money supply to protect the economy from inflation and promote price stability.

If the price of goods and services rises due to inflation, consumers can lose their purchasing power. A moderate inflation rate is considered healthy for the economy. It encourages people to spend or invest their money today, rather than sock it away in a low-interest savings account where it could slowly lose value. The FOMC has determined that an inflation rate of around 2% is optimal for employment and price stability.

If inflation rises above that level for a prolonged period of time, the Fed may decide to pump the brakes to control inflation and keep the U.S. economy on track.

The Fed has several tools for controlling inflation, including raising its federal funds rate and discount rate, selling government bonds, and increasing the reserve requirements for banks. When access to money gets more expensive, consumers and businesses typically borrow less and save more, economic activity slows, and inflation stays at a more comfortable level.

Recommended: Is Inflation Good? Who Benefits from Inflation?

Why Would the Fed Take a Dovish Stance?

A dovish or expansionary monetary policy is the opposite of hawkish monetary policy.

If the Fed is worried about the economy’s growth, it may decide to give it a boost by lowering interest rates, purchasing government securities by central banks, and lowering the reserve requirements for banks. Or, if it thinks employment and growth are on track, it might keep interest rates the same.

With lower interest rates, businesses can borrow more money to expand and potentially hire more workers or raise wages. And when consumers are in a low-interest rate environment created by a dovish monetary policy, they may be more likely to borrow money for big-ticket items like cars, homes, home improvements, and vacations. That increased consumption can also create more jobs. And doves tend to prefer low unemployment over low inflation.

Is It Possible to Be Both Hawkish and Dovish?

Yes. Some economists (and FOMC members) don’t take a completely hawkish or dovish attitude toward monetary policy. They are sometimes referred to as neutral or “centrists,” because they don’t appear to prioritize one economic goal over another. Fed Chair Jerome Powell, for example, has been called a hawk, a dove, a “cautious hawk,” a “cautious dove,” neutral, and centrist in various media reports.

And the media frequently pondered where Powell’s predecessor, U.S. Treasury Secretary Janet Yellen, stood on the hawk-dove continuum.

The current (as of 2023) FOMC includes members who have been identified as hawkish, dovish, and neutral. That mix of viewpoints can make it difficult to guess the group’s next move — so anxious investors are keeping a close eye out for clues as to what could happen next.

How Do Hawkish vs Dovish Policies Affect Savers, Spenders, and Investors?

Interest rates frequently rise and fall as the economy cycles through periods of growth and stagnation, and those fluctuations impact everyone. Whether you’re a saver, spender, or investor — or, like most people, all three — you can expect those rate changes to eventually impact your bottom line.

For Savers

Savings account rates are loosely connected to the interest rates the Fed sets, so you might not see a difference right away if there’s a cut or a hike.

When the Fed lowers the federal funds rate, however, financial institutions may move to protect their profits by lowering the interest paid on high-yield savings accounts, money market accounts, and certificates of deposit (CDs). That can be frustrating, and it may be tempting to give up on saving or move money to riskier investments. But specialists generally recommend keeping an emergency fund with at least three to six months’ worth of living expenses stashed in a low-risk account that’s easy to access and isn’t tied to the markets.

Savers may want to check out the more competitive rates offered by online accounts. Because online-only financial institutions have a lower overhead, they typically out-yield brick-and-mortar banks’ savings accounts, regardless of what the Fed is doing with its rates.

For Spenders

An increase or decrease in the federal funds rate can indirectly affect the prime rate banks offer their most credit-worthy customers. And it is often used as a reference rate, or base rate, for other financial products, including car loans, mortgages, home equity lines of credit, personal loans, and credit cards.

If interest rates go down, and borrowing gets cheaper, it can encourage consumers to go out and make those purchases — both big and small — that they’ve been wanting to make.

If those interest rates go up, on the other hand, consumers tend to be deterred from borrowing and spending. They might decide to wait for rates to drop before financing a house, a car, or an expensive purchase like an appliance or home renovation.

Impulse spending also can be affected. Spenders might choose to save their money instead — especially if the interest rate goes up on CDs, money market accounts, and other savings vehicles. Or consumers may focus on paying down credit card debt and other loans to avoid paying high interest on big balances, especially if those obligations carry a variable interest rate.

For Investors

There are no guarantees as to how any investment will react to changes in interest rates made by the Fed. Some assets (like bonds) can be more directly impacted than others. But nearly every type of investment you might have could be affected.

One way to reduce your risk exposure is to create a diversified portfolio, with a mix of assets — from stocks and bonds to real estate and commodities, and so on — that won’t necessarily react in the same way to changes in the interest rate (or other economic factors). If your investments all trend up or down together, your portfolio isn’t properly diversified.


💡 Quick Tip: Investment fees are assessed in different ways, including trading costs, account management fees, and possibly broker commissions. When you set up an investment account, be sure to get the exact breakdown of your “all-in costs” so you know what you’re paying.

The Takeaway

The Federal Reserve has two primary goals: overseeing U.S. monetary policy in order to stabilize prices and control inflation — a stance that’s considered hawkish or contractionary — and maximizing employment, which is considered dovish. While these two aims can seem at odds, the Fed has been striving to take a mostly dovish or neutral stance in recent years.

A recent bout of inflation, however, forced the Fed to change its stance in 2022 and raise interest rates. It’ll likely change its stance again when inflation cools. It’s a never-ending game of posturing, all with the goal of maintaining low unemployment and stable prices.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.


Photo credit: iStock/drnadig

SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Claw Promotion: Customer must fund their Active Invest account with at least $10 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

SOIN0723048

Read more
person on computer

Are 401(k) Contributions Tax Deductible? Limits Explained

As you’ve been planning and saving for retirement, you may have heard that there’s a “401(k) tax deduction.” And while there are definitely tax benefits associated with contributing to a 401(k) account, the term 401(k) tax deduction isn’t accurate.

You cannot deduct your 401(k) contributions on your income tax return, per se — but the money you save in your 401(k) is deducted from your gross income, which can potentially lower how much tax you owe.

This is not the case for a Roth 401(k), a relative newcomer in terms of retirement accounts. These accounts are funded with after-tax contributions, and so tax deductions don’t enter the picture.

Key Points

•   401(k) contributions are not tax deductible, but they lower your taxable income.

•   Roth 401(k) contributions are made with after-tax money and do not provide tax deductions.

•   Contributions to employer-sponsored plans like 401(k) or 403(b) are taken out of your salary and reduce your taxable income.

•   401(k) withdrawals are taxed as income, and early withdrawals may incur additional penalties.

•   Making eligible contributions to a 401(k) or IRA can potentially qualify you for a Retirement Savings Contributions Credit.

How Do 401(k) Contributions Affect Your Taxable Income?

The benefits of putting pre-tax dollars toward your 401(k) plan are similar to a tax deduction, but are technically different.

•   An actual tax deduction (similar to a tax credit) is something you document on your actual tax return, where it reduces your gross income.

•   Contributions to an employer-sponsored plan like a 401(k) or 403(b) are actually taken out of your salary, so that money is not taxed, and thus your taxable income is effectively reduced. But this isn’t technically a tax deduction.

People will often say your 401(k) contributions are tax deductible, or you get a tax deduction for saving in a 401(k), but it’s really that your 401(k) savings are deducted from your salary, and not taxed.

The money in the account also grows tax free over time, and you would pay taxes when you withdraw the money.

Example of a 401(k) Contribution

Let’s say you earn $75,000 per year. And let’s imagine you’re contributing 10% of your salary to your 401(k), or $7,500 per year.

Your salary is then reduced by $7,500, an amount that is noted on your W2. As a result, your taxable income would drop to $67,500.

Would that alone put you in a lower tax bracket? It’s possible, but your marginal tax rate is determined by several things, including deductions for Social Security and Medicare taxes, so it’s a good idea to take the full picture into account or consult with a professional.

Recommended: IRA vs 401(k): What’s the Difference?

Get a 2% IRA match. Tax season is now match season.

Get a 2% match on all your SoFi IRA contributions* through Tax Day (up to the annual contribution limits). Plus, you can still contribute to your 2023 IRAs until April 15th.


*Offer lasts through Tax Day, 4/15/24. Only offers made via ACH are eligible for the match. ACATs, wires, and rollovers are not included.

Do You Need to Report 401(k) Contributions on Your Tax Return?

The short answer is no. Because 401(k) contributions are taken out of your paycheck before being taxed, they are not included in taxable income and they don’t need to be reported on a tax return (e.g. Form 1040, U.S. Individual Income Tax Return or Form 1040-SR, U.S. Tax Return for Seniors).

Your employer does include the full amount of your annual contributions on your W2 form, which is reported to the government. So Uncle Sam does know how much you’ve contributed that year.

You won’t need to report any 401(k) income until you start taking distributions from your 401(k) account — typically after retiring. At that time, you’ll be required to report the withdrawals as income on your tax return, and pay the correct amount of taxes.

When you’re retired and withdrawing funds (aka taking distributions), the hope is that you’ll be in a lower tax bracket than while you were working. In turn, the amount you’re taxed will be relatively low.

How the Employer Match Works

When an individual receives a matching contribution to their 401(k) from their employer, this amount is also not taxed. A typical matching contribution might be 3% for every 6% the employee sets aside in their 401(k). In this case, the matching money would be added to the employee’s account, and the employee would not owe tax on that money until they withdrew funds in retirement.

How Do 401(k) Withdrawals Affect Taxes?

The tax rules for withdrawing funds from a 401(k) account differ depending on how old you are when you withdraw the money.

Generally, all traditional 401(k) retirement plan distributions are eligible for income tax upon withdrawal of the funds (note: that rule does not apply to Roth 401(k)s, since contributions to those plans are made with after-tax dollars, and withdrawals are generally tax free).

If you withdraw money before the age of 59 ½ it’s known as an “early” or “premature” distribution. For these early withdrawals, individuals have to pay an additional 10% tax as a part of an early withdrawal penalty, with some exceptions, including withdrawals that occur:

•   After the death of the plan participant

•   After the total and permanent disability of the plan participant

•   When distributed to an alternate payee under a Qualified Domestic Relations Order

•   During a series of substantially equal payments

•   Due to an IRS levy of the plan

•   For qualified medical expenses

•   Certain distributions for qualified military reservists called to active duty

For individuals looking to withdraw from their 401(k) plan before age 59 ½, a 401(k) loan may be a better option that will not result in withdrawal penalties, but these loans with their own potential consequences.

How Do Distributions From a 401(k) Work?

Once you turn 59 ½, you can withdraw 401(k) funds at any time, and you will owe income tax on the money you withdraw each year. That said, you cannot keep your retirement funds in the account for as long as you wish.

When you turn 72, the IRS requires you to start withdrawing money from your 401(k) each year. These withdrawals are called required minimum distributions (or RMDs), and it’s important to understand how they work because if you don’t withdraw the correct amount by Dec. 31 of each year, you could get hit with a big penalty.

Prior to 2019, the age at which 401(k) participants had to start taking RMDs was 70 ½. The rule changed in 2019 and the required age is now 72. When you turn 72 the IRS requires you to start taking withdrawals from your 401(k), or other tax-deferred accounts (like a traditional IRA or SEP IRA).

If you don’t take the required minimum amount each year, you could face another requirement: to pay a penalty of 50% of the withdrawal you didn’t take.

All RMDs from tax-deferred accounts like 401(k) plans are taxed as ordinary income. If you withdraw more than the required minimum, no penalty applies.

Recommended: Should You Open an IRA If You Have a 401(k)?

What Are Tax Saver’s Credits?

Making eligible contributions to an employer-sponsored retirement plan such as a 401(k) or an IRA can potentially lead to a tax credit known as a Retirement Savings Contributions Credit, or a Saver’s credit. There are three requirements that must be met to qualify for this credit.

1.    Individual must be age 18 or older.

2.    They cannot be claimed as a dependent on someone else’s return.

3.    They can not be a student (certain exclusions apply).

The amount of the credit received depends on the individual’s adjusted gross income.

The credit amount is typically 50%, 20%, or 10% of contributions made to qualified retirement accounts such as a 401(k), 4013(b), 457(b), traditional or Roth IRAs.

For tax year 2023, the maximum contribution amount that qualifies for this credit is $2,000 for individuals, and $4,000 for married couples filing jointly, bringing the maximum credit to $1,000 for individuals and $2,000 for those filing jointly. Rollover contributions don’t qualify for this credit.

Alternatives for Reducing Taxable Income

Aside from contributing to a traditional 401(k) account, there are other ways to reduce taxable income while putting money away for the future.

Traditional IRA: Traditional IRAs are one type of retirement plan that can lower taxable income. Individuals may be able to deduct their traditional IRA contributions on their federal income tax returns. The deduction is typically available in full if an individual (and their spouse, if married) doesn’t have retirement plan coverage offered by their work. Their deduction may be limited if they or their spouse are offered a retirement plan at work, and their income exceeds certain levels.

SEP IRA: SEP IRAs are a possible alternative investment account for individuals who are self-employed and don’t have access to an employee sponsored 401(k). Taxpayers who are self-employed and contribute to an SEP IRA can qualify for tax deductions.

403(b) Plans: A 403(b) plan applies to employees of public schools and tax-exempt organizations, and certain ministers. Employees with 403(b) plans can contribute some of their salary to the plan, as can their employer. As with a traditional 401(k) plan, the participant doesn’t need to pay income tax on any allowable contributions, earnings, or gains until they begin to withdraw from the plan.

Charitable donations: It’s possible to claim a deduction on federal taxes after donating to charities and non-profit organizations with 501(c)(3) status. To deduct charitable donations, an individual has to file a Schedule A with their tax form and provide proper documentation regarding cash or vehicle donations.

To deduct non-cash donations, they have to complete a Form 8283. For donated non-cash items, individuals can claim the fair market value of the items on their taxes. from the IRS explains how to determine vehicle deductions. For donations that involve receiving a gift or a ticket to an event, the donor can only deduct the amount of the donation that exceeds the worth of the gift or ticket received. Individuals are generally required to include receipts when they submit their return.

Earned Income Tax Credit: Individuals and married couples with low to moderate incomes may qualify for the Earned Income Tax Credit (EITC). This particular tax credit can help lower the amount of taxes owed if the individual meets certain requirements and files a tax return — whether or not the individual owes money. Filing a return in this case can be beneficial, because if EITC reduces the amount of taxes owed to less than $0, then the filer may actually get a refund.

The Takeaway

Individuals who expect a 401(k) deduction come tax time may be disappointed to learn that there is no such thing as a 401(k) tax deduction. But they may be pleased to learn the other tax benefits of contributing to a 401(k) retirement account.

Contributions are made with pre-tax dollars, which effectively lowers one’s amount of taxable income for the year — and that may in turn lower the amount of income taxes owed.

Once an individual reaches retirement age and starts withdrawing funds from their 401(k) account, that money will be considered income, and will be taxed accordingly.

Another way to maximize your retirement savings: Consider rolling over your old 401(k) accounts so you can manage your money in one place with a rollover IRA. SoFi makes the rollover process seamless and simple. There are no rollover fees. The process is automated so you’ll avoid the risk of a penalty, and you can complete your 401(k) rollover quickly and easily.

Help grow your nest egg with a SoFi IRA.


SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOIN0123025

Read more

Guide to Tax-Loss Harvesting

Tax-loss harvesting enables investors to use investment losses to help reduce the tax impact of investment gains, thus potentially lowering the amount of taxes owed. While a tax loss strategy – sometimes called tax loss selling — is often used to offset short-term capital gains (which are taxed at a higher federal tax rate), tax-loss harvesting can also be used to offset long-term capital gains.

Of course, as with anything having to do with investing and taxes, tax-loss harvesting is not simple. In order to carry out a tax-loss harvesting strategy, investors must adhere to specific IRS rules and restrictions. Here’s what you need to know.

What Is Tax-Loss Harvesting?

Tax-loss harvesting is a strategy that enables an investor to sell assets that have dropped in value as a way to offset the capital gains tax they may owe on the profits of other investments they’ve sold. For example, if an investor sells a security for a $25,000 gain, and sells another security at a $10,000 loss, the loss could be applied so that the investor would only see a capital gain of $15,000 ($25,000 – $10,000).

This can be a valuable tax strategy for investors because you owe capital gains taxes on any profits you make from selling investments, like stocks, bonds, properties, cars, or businesses. The tax only hits when you profit from the sale and realize a profit, not for simply owning an appreciated asset.

💡 Quick Tip: If you’re opening a brokerage account for the first time, consider starting with an amount of money you’re prepared to lose. Investing always includes the risk of loss, and until you’ve gained some experience, it’s probably wise to start small.

How Tax-Loss Harvesting Works

In order to understand how tax-loss harvesting works, you first have to understand the system of capital gains taxes.

Capital Gains and Tax-Loss Harvesting

As far as the IRS is concerned, capital gains are either short term or long term:

•   Short-term capital gains and losses are from the sale of an investment that an investor has held for one year or less.

•   Long-term capital gains and losses are those recognized on investments sold after one year.

Understanding Short-Term Capital Gains Rates

The one-year mark is crucial, because the IRS taxes short-term investments at the investor’s much-higher marginal or ordinary income tax rate. There are seven ordinary tax brackets: 10%, 12%, 22%, 24%, 32%, 35%, and 37%.

For high earners, gains can be taxed as much as 37%, plus a potential 3.8% net investment income tax (NIIT), also known as the Medicare tax. That means the taxes on those quick gains can be as high as 40.8% — and that’s before state and local taxes are factored in.

Understanding Long-Term Capital Gains Rates

Meanwhile, the long-term capital gains taxes for an individual are simpler and lower. These rates fall into three brackets, according to the IRS: 0%, 15%, and 20%. Here are the rates for tax year 2023, per the IRS.

The following table breaks down the long-term capital-gains tax rates for the 2023 tax year (for taxes that are filed in 2024) by income and filing status.

Capital Gains Tax Rate

Income – Single

Married, filing separately

Head of household

Married, filing jointly

0% Up to $44,625 Up to $44,625 Up to $59,750 Up to $89,250
15% $44,626 – $492,300 $44,626 – $276,900 $59,751 – $523,050 $89,251 – $553,850
20% More than $492,300 More than $276,900 More than $523,050 More than $553,850

Source: Internal Revenue Service

So if you’re an individual filer, you won’t pay capital gains if your total taxable income is $44,625 or less. But if your income is between $44,626 to $492,300, your investment gains would be subject to a 15% capital gains rate. The rate is 20% for single filers with incomes over $492,300.

As with all tax laws, don’t forget the fine print. As noted above, the additional 3.8% NIIT may apply to single individuals with a modified adjusted gross income (MAGI) of $200,000 or married couples with a MAGI of at least $250,000.

Also, long-term capital gains from sales of collectibles (e.g, coins, antiques, fine art) are taxed at a maximum of 28% rate. This is separate from regular capital gains tax, not in addition to it.

Short-term gains on collectibles are taxed at the ordinary income tax rate, as above.

Recommended: Everything You Need to Know About Taxes on Investment Income

Rules of Tax-Loss Harvesting

The upshot is that investors selling off profitable investments can face a stiff tax bill on those gains. That’s typically when investors (or their advisors) start to look at what else is in their portfolios. Inevitably, there are likely to be a handful of other assets such as stocks, bonds, real estate, or different types of investments that lost value for one reason or another.

While tax-loss harvesting is typically done at the end of the year, investors can use this strategy any time, as long as they follow the rule that long-term losses apply to long-term gains first, and short-term losses to short-term gains first.

Bear in mind that although a capital loss technically happens whenever an asset loses value, it’s considered an “unrealized loss” in that it doesn’t exist in the eyes of the IRS until an investor actually sells the asset and realizes the loss.

The loss at the time of the sale can be used to count against any capital gains made in a calendar year. Given the high taxes associated with short-term capital gains, it’s a strategy that has many investors selling out of losing positions at the end of the year.

Get up to $1,000 in stock when you fund a new Active Invest account.*

Access stock trading, options, auto investing, IRAs, and more. Get started in just a few minutes.


*Customer must fund their Active Invest account with at least $10 within 30 days of opening the account. Probability of customer receiving $1,000 is 0.028%. See full terms and conditions.

Tax-Loss Harvesting Example

If you’re wondering how tax-loss harvesting works, here’s an example. Let’s say an investor is in the top income tax bracket for capital gains. If they sell investments and realize a long-term capital gain, they would be subject to the top 20% tax rate; short-term capital gains would be taxed at their marginal income tax rate of 37%.

Now, let’s imagine they have the following long- and short-term gains and losses, from securities they sold and those they haven’t:

Securities sold:

•   Stock A, held for over a year: Sold, with a long-term gain of $175,000

•   Mutual Fund A, held for less than a year: Sold, with a short-term gain of $125,000

Securities not sold:

•   Mutual Fund B: an unrealized long-term gain of $200,000

•   Stock B: an unrealized long-term loss of $150,000

•   Mutual Fund C: an unrealized short-term loss of $80,000

The potential tax liability from selling Stock A and Mutual Fund A, without tax-loss harvesting, would look like this:

•   Tax without harvesting = ($175,000 x 20%) + ($125,000 x 37%) = $35,000 + $46,250 = $81,250

But if the investor harvested losses by selling Stock B and Mutual Fund C (remember: long-term losses apply to long-term gains and short term losses to short term gains first), the tax picture would change considerably:

•   Tax with harvesting = (($175,000 – $150,000) x 20%) + (($125,000 – $80,000) x 37%) = $5,000 + $16,650 = $21,650

Note how the tax-loss harvesting strategy not only reduces the investor’s tax bill, but potentially frees up some money to be reinvested in similar securities (restrictions may apply there; see information on the wash sale rule below).

💡 Quick Tip: It’s smart to invest in a range of assets so that you’re not overly reliant on any one company or market to do well. For example, by investing in different sectors you can add diversification to your portfolio, which may help mitigate some risk factors over time.

Considerations Before Using Tax-Loss Harvesting

As with any investment strategy, it makes sense to think through a decision to sell just for the sake of the tax benefit because there can be other ramifications in terms of your long-term financial plan.

The Wash Sale Rule

For example, if an investor sells losing stocks or other securities they still believe in, or that still play an important role in their overall financial plan, then they may find themselves in a bind. That’s because a tax regulation called the wash sale rule prohibits investors from receiving the benefit of the tax loss if they buy back the same investment too soon after selling it.

Under the IRS wash sale rule, investors must wait 30 days before buying a security or another asset that’s “substantially identical” to the one they just sold. If they do buy an investment that’s the same or substantially identical, then they can’t claim the tax loss.

For an investment that’s seen losses, that 30-day moratorium could mean missing out on growth — and the risk of buying it again later for a higher price.

Matching Losses With Gains

A point that bears repeating: Investors must also be careful which securities they sell. Under IRS rules, like goes with like. So, long-term losses must be applied to long-term gains first, and the same goes for short-term losses and short-term gains. After that, any remaining net loss can be applied to either type of gain.

How to Use Net Losses

The difference between capital gains and capital losses is called a net capital gain. If losses exceed gains, that’s a net capital loss.

•   If an investor has an overall net capital loss for the year, they can deduct up to $3,000 against other kinds of income — including their salary and interest income.

•   Any excess net capital loss can be carried over to subsequent years and deducted against capital gains, and up to $3,000 of other kinds of income — depending on the circumstances.

•   For those who are married filing separately, the annual net capital loss deduction limit is only $1,500.

How to Use Tax-Loss Harvesting to Lower Your Tax Bill

When an investor has a diversified portfolio, every year will likely bring investments that thrive and others that lose money, so there can be a number of different ways to use tax-loss harvesting to lower your tax bill. The most common way, addressed above, is to apply capital losses to capital gains, thereby reducing the amount of tax owed. Here are some other strategies:

Tax-Loss Harvesting When the Market Is Down

For investors looking to invest when the market is down, capital losses can be easy to find. In those cases, some investors can use tax-loss harvesting to diminish the pain of losing money. But over long periods of time, the stock markets have generally gone up. Thus, the opportunity cost of selling out of depressed investments can turn out to be greater than the tax benefit.

It also bears remembering that many trades come with trading fees and other administrative costs, all of which should be factored in before selling stocks to improve one’s tax position at the end of the year.

Tax-Loss Harvesting for Liquidity

There are years when investors need access to capital. It may be for the purchase of a dream home, to invest in a business, or because of unforeseen circumstances. When an investor wants to cash out of the markets, the benefits of tax-loss harvesting can really shine.

In this instance, an investor could face bigger capital-gains taxes, so it makes sense to be strategic about which investments — winners and losers — to sell by year’s end, and minimize any tax burden.

Tax-Loss Harvesting to Rebalance a Portfolio

The potential benefits of maintaining a diversified portfolio are widely known. And to keep that portfolio properly diversified in line with their goals and risk tolerance, investors may want to rebalance their portfolio on a regular basis.

That’s partly because different investments have different returns and losses over time. As a result, an investor could end up with more tech stocks and fewer energy stocks, for example, or more government bonds than small-cap stocks than they intended.

Other possible reasons for rebalancing are if an investor’s goals change, or if they’re drawing closer to one of their long-term goals and want to take on less risk.

That’s why investors check their investments on a regular basis and do a tune-up, selling some stocks and buying others to stay in line with the original plan. This tune-up, or rebalancing, is an opportunity to do some tax-loss harvesting.

How Much Can You Write Off on Your Taxes?

If capital losses exceed capital gains, under IRS rules investors can then deduct a portion of the net losses from their ordinary income to reduce their personal tax liability. Investors can deduct the lesser of $3,000 ($1,500 if married filing separately), or the total net loss shown on line 21 of Schedule D (Form 1040).

In addition, any capital losses over $3,000 can be carried forward to future tax years, where investors can use capital losses to reduce future capital gains. This is known as a tax loss carryforward. So in effect, you can carry forward tax losses indefinitely.

To figure out how to record a tax loss carryforward, you can use the Capital Loss Carryover Worksheet found on the IRS’ Instructions for Schedule D (Form 1040).

Benefits and Drawbacks of Tax-Loss Harvesting

While tax-loss harvesting can offer investors some advantages, it comes with some potential downsides as well.

Benefits of Tax-Loss Harvesting

Obviously the main point of tax-loss harvesting is to reduce the amount of capital gains tax on profits after you sell a security.

Another potential benefit is being able to literally cut some of your losses, when you sell underperforming securities.

Tax-loss harvesting, when done with an eye toward an investor’s portfolio as a whole, can help with balancing or rebalancing (or perhaps resetting) their asset allocation.

As noted above, investors often sell off assets when they need cash. Using a tax-loss harvesting strategy can help do so in a tax-efficient way.

Drawbacks of Tax-Loss Harvesting

While selling underperforming assets may make sense, it’s important to vet these choices as you don’t want to miss out on the gains that might come if the asset bounces back.

Another of the potential risks of tax-loss harvesting is that if it’s done carelessly it can leave a portfolio imbalanced. It might be wise to replace the securities sold with similar ones, in order to maintain the risk-return profile. (Just don’t run afoul of the wash-sale rule.)

Last, it’s possible to incur excessive trading fees that can make a tax-loss harvesting strategy less efficient.

Pros of Tax-Loss Harvesting Cons of Tax-Loss Harvesting
Can lower capital gains taxes Investor might lose out if the security rebounds
Can help with rebalancing a portfolio If done incorrectly, can leave a portfolio imbalanced
Can make a liquidity event more tax efficient Selling assets can add to transaction fees

Creating a Tax-Loss Harvesting Strategy

Interested investors may want to create their own tax-loss harvesting strategy, given the appeal of a lower tax bill. An effective tax-loss harvesting strategy requires a great deal of skill and planning.

It’s important to take into account current capital gains rates, both short and long term. Investors would be wise to also weigh their current asset allocation before they attempt to harvest losses that could leave their portfolios imbalanced.

All in all, any strategy should reflect your long-term goals and aims. While saving money on taxes is important, it’s not the only rationale to rely on for any investment strategy.

The Takeaway

Tax loss harvesting, or selling off underperforming stocks and then potentially getting a tax reduction for the loss, can be a helpful part of a tax-efficient investing strategy.

There are many reasons an investor might want to do tax-loss harvesting, including when the market is down, when they need liquidity, or when they are rebalancing their portfolio. It’s an individual decision, with many considerations for each investor — including what their ultimate financial goals might be.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

Invest with as little as $5 with a SoFi Active Investing account.

FAQ

Is tax-loss harvesting really worth it?

When done carefully, with an eye toward tax efficiency as well as other longer-term goals, tax-loss harvesting can help investors save money that they can invest for the long term.

Does tax-loss harvesting reduce taxable income?

Yes. The point of tax-loss harvesting is to reduce income from investment gains (profits). But also when net losses exceed gains, the strategy can reduce your taxable income by $3,000 per year.

Can you write off 100% of investment losses?

It depends. Investment losses can be used to offset a commensurate amount in gains, thereby lowering your potential capital gains tax bill. If there are still net losses that cannot be applied to gains, up to $3,000 per year can be applied to reduce your ordinary income. Net loss amounts in excess of $3,000 would have to be carried forward to future tax years.


SoFi Invest®
INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Investment Risk: Diversification can help reduce some investment risk. It cannot guarantee profit, or fully protect in a down market.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

SOIN0224030

Read more
TLS 1.2 Encrypted
Equal Housing Lender