At the end of the year I will owe some money in taxes. Rather than simply pay it, I am considering making a wild bet (with options, for example), in a controlled way such that I can't lose more than I'll owe in taxes.

If I win the bet, I make a profit. If I lose, I simply write the loss off as capital gains losses, and pay my taxes that way.

Why is this a bad idea?

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    You're thinking tax deductions work like tax credits. They don't. – whatsisname Sep 19 at 16:39
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    I know little of the US tax system but if the bet pays of do you not also pay the extra tax over the profit. So that the expectation value is hardly affected. Loss off say 1000 bucks will effectively be less, say 800 for example, which is a good thing. But the say 1000 bucks profit when the bet hits off will also be taxed giving you an effective lower return. In the end I don't see why the math is any different from making a risky investment at any other time. – Kvothe Sep 19 at 16:58
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    Are you trying to offset income taxes, or only your capital gains? – costrom Sep 19 at 17:04
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    Obligatory Seinfeld: "Jerry, all these big companies, they write off everything. You don't even know what a write-off is. Do you? No, I don't. But they do. And they're the ones writing it off." – Zach Lipton Sep 20 at 21:05
  • actually, this ain't always a bad idea; some people do exactly this on EOY (using different financial instruments), because the guaranteed tax reduction bonus offsets at least some of the risk involved. It still requires careful hedging and planning, but it's certainly doable and can be worthwhile. – vaxquis Sep 20 at 21:28
up vote 110 down vote accepted

Suppose your tax rate is 20%.

You have earned 5000 coins during the year and now owe 1000 coins in taxes.

Instead of paying the tax, you speculate using your 1000 coins -- but, alas, you lose all of it.

Assuming you can deduct that loss, your net income for the year is now 4000 coins.

You still owe 800 coins in taxes.

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    In other words, it cost you 1,000 coins to save 200 coins in taxes. Very bad. – chili555 Sep 19 at 14:41
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    This. "Tax deductable" does not mean what many people think it means, which leads many people to do stupid things which don't actually benefit them in a futile attempt to spite the taxman. – Mason Wheeler Sep 19 at 15:07
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    @MasonWheeler People make the same mistake with marginal tax rates - avoiding a raise or outside income because "it'll put me in the next tax bracket!" – ceejayoz Sep 19 at 16:52
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    @stannius I deliberately set the example in a fairytale country with a single non-progressive tax rate, to show that the problem with the OP's suggestion is fundamental to how the idea of income tax works -- it's not just that this or that country has specific rules to "plug that hole". Including a discussion of limits to deductability in specific countries would blur that point. – Henning Makholm Sep 19 at 20:21
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    @MasonWheeler: Yes, like keeping a mortgage for the interest deduction :-( – AbraCadaver Sep 19 at 21:38

If you incur a loss on your option play, it only reduces your income by the amount of your tax bracket.

Most investment decisions should not be made solely on the basis of taxation. Making a "wild bet" with options is one of them. As a wild bet, it most likely has a poor risk/reward spectrum and is a bad bet at any time of the year.

You could possibly defer taxes by taking a pairs position in highly correlated assets that are not substantially identical. For example, buying one gold stock and selling another.

If they move, at the end of the year, you cover the one that has the loss, deferring the gain until January 2nd. There is greater risk in doing this (the correlation breaks down). If you had a fundamental reason for the position then the taxation might be a secondary benefit. But again, this shouldn't be done based solely on taxation.

  • @stannius - These days, option commissions at deep discount brokers are well under a buck, even lower if one trades size so transaction fees are almost irrelevant. The rest of your comment is too nebulous for me to understand. Given the OP's question, what specific trade would you put on that is perfectly priced option bet? If you were referring to my Pair trade suggestion, that isn't exactly a neutral bet. I stated that you would need a fundamental reason for the position. For example, it might be a reversion to the mean or it might be an expectation of out performance by one leg. – Bob Baerker Sep 21 at 22:06
  • @stannius - Again, a lot of words which I don't understand the meaning of. Please offer some specific "perfectly priced" bets that "If you took the bet a million times, on average, you would end up with the same amount of money you started with." Some nebulous position with high variance, low to zero EV bet, and in a small-ish marginal tax rate peak means nothing to me. Where's the beef ??? – Bob Baerker Sep 21 at 22:19

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