This beginner’s guide to tax-efficient investing includes practical steps on how to potentially avoid paying more tax than you need to on your investments. It will outline ways to navigate the world of investment taxes and the steps that you can consider taking to potentially optimise your returns.
Wondering how tax may eat into your investment returns? It’s time to explore the different approaches that you can consider taking to incorporate tax planning into your investment strategy.
Tax treatment differs across jurisdictions. Not all of these products/services are offered to eToro clients.
eToro does not provide tax advice and the information provided should not be interpreted as such. Customers should seek independent tax advice.
What Are Tax-Efficient Investment Strategies
Tax-efficient investment strategies are investment plans that investors may consider adopting to legally minimise their tax burden while trying to build their wealth. This approach focuses on potentially maximising post-tax returns rather than gross returns.
The effectiveness of these strategies will vary based on your personal circumstances, income level, and the specific tax rules and regulations in your location. It is of paramount importance that you remain compliant with tax laws, and such programs do represent an additional workload, but tax-efficient strategies have the potential to help you keep more of your investment gains.
Tip: Tax laws can change, so staying informed about current regulations is crucial for maintaining an effective tax-efficient investment approach.
Understanding Capital Gains Tax
Capital Gains Tax (CGT) is a tax on profits made when you sell an asset that has increased in value. Understanding CGT allowances, exemptions, spousal transfers, and the off-setting of losses is fundamental to implementing CGT-efficient investment strategies.
Let’s explore a case study from the UK to try and understand the key factors:
If you bought £5,000 worth of shares in Barclays (BARC) and sold them for £5,500, your capital gain would be £500.
Tax allowance: UK citizens have an individual CGT tax allowance of £3,000 (as of the 2025/26 tax year). If that £500 return from Barclays stock was the only capital gain reported in the tax year, your net return would also be £500 as you haven’t breached the taxation threshold of £3,000.
Personal marginal tax rate: If you had already recorded CGT gains in excess of £3,000, then, in line with the tax rates applicable to 2025/26, the £500 gain on BARC would be taxed at 18% if your annual income is below £50,270, and at 24% if your annual income exceeds the £50,270 threshold.
- £500 @18% = £90 CGT payable to HMRC and a net gain of £410
- £500 @24% = £120 CGT payable to HMRC and a net gain of £380
These examples are simplified and for illustrative purposes only; actual liability depends on personal circumstances and local laws.
There are alternative options to consider when developing a tax-efficient strategy.
Spousal transfers: In the UK, you and your spouse or civil partner are treated as separate individuals for capital gains tax purposes. You also do not usually pay CGT when you make a gift of an asset to your husband/wife or civil partner, as long as you are living together.
If you transfer the BARC shares in our case study to your spouse, there will typically be no CGT liable on that transfer. If your spouse then sells the BARC shares, the £500 profit would still come into the scope of CGT, but the liability would be calculated based on their personal circumstances, not yours. If they have not yet reached their £3,000 personal CGT threshold for that year, then any of the £500 of gains which does not take them over the £3,000 threshold, would not be liable for CGT.
These examples are simplified and for illustrative purposes only; actual liability depends on personal circumstances and local laws.
Tip: Certain assets like your main home may be exempt from CGT.
Offsetting losses: A UK resident who makes £5,000 in capital gains on one position, but who also has £2,000 in losses in the same tax year, can claim their net gain to be £3,000. With the UK CGT allowance for the 2025/26 tax year at £3,000, if net gains remain below that threshold, they would not have a capital gains tax liability in that tax year. Losses can also potentially be carried forward from previous tax years to future ones.
These examples are simplified and for illustrative purposes only; actual liability depends on personal circumstances and local laws.
Tip: Keep detailed records and check what losses must be reported to your tax authority by a certain date.
Tax-Advantaged Accounts
Tax-advantaged investment accounts are government-sponsored schemes that are either exempt from taxation, defer tax liabilities, or offer other types of tax benefits. They are designed to encourage saving and investing and form the cornerstone of tax-efficient investment strategies.
Tax-advantaged accounts can enhance your long-term investment returns. They offer ways to shelter your investments from certain taxes and potentially accelerate your wealth accumulation.
The exact terms of schemes vary from country to country and there is likely to be more than one government-approved tax-efficient scheme available, so there is benefit to be gained from researching which might best apply to you.
- In the UK, you should be able to open a Self-Invested Personal Pension (SIPP) which offers tax relief on contributions up to £60,000 per year.
- Individual Savings Accounts (ISAs) are UK savings and investment schemes which allow you to invest up to £20,000 annually (as of 2025/26) without paying tax on capital gains or income.
- Similar schemes in the US include 401(k) plans and Roth IRAs.
Incorporating the benefits of tax-advantaged accounts into your strategy involves planning in advance. When considering the potential advantages and disadvantages of a scheme, be sure to consider how they apply to your personal situation and the tax laws of the jurisdiction involved.
Questions you could include in your research:
- Are there annual contribution limits?
- What assets can be included in the scheme?
- Is income such as dividends also tax-free?
- What age do you have to be to have access to the funds?
- Can you make early withdrawals and do they incur penalties?
- Can cash withdrawals be reinvested (in the same tax year)?
- Does tax relief apply on contributions or withdrawals?
- What are the inheritance tax implications of different schemes?
- Is it possible to take a tax-free lump-sum withdrawal at maturity?
- Does the scheme include matching contributions from your employer?
Tip: Consider maximising your tax-free allowance each year before the date on which the tax year ends.
Tax Loss Harvesting
Strategies designed to reduce your total tax burden could also include tax loss harvesting, which involves strategically selling investments which are unprofitable to record a loss which can then be offset against capital gains in other positions.
Understanding how to implement tax loss harvesting effectively can help you to manage your tax bill while maintaining your desired investment exposure, but this strategy requires careful planning and execution to maximise its benefits while avoiding potential pitfalls.
Rules relating to tax loss harvesting, sometimes referred to as “wash sale” or “bed and breakfasting” rules, vary by jurisdiction, but typically state that the same or substantially similar assets cannot be used as part of tax harvesting if repurchased within a certain time period.
Engaging in tax loss harvesting not only increases the risk of your not being tax compliant, but there are other potential downsides as well. If you adjust your portfolio to prioritise tax efficiency, you might forsake portfolio returns relating to rising valuations, or leave your portfolio unbalanced and exposed to market risk if there is a correction.
How To Implement Tax Loss Harvesting Effectively
The implementation of a tax loss harvesting strategy benefits from adopting a methodical mindset so you can ensure that your trading activity and reporting remain compliant. Following a step-by-step approach can help you to avoid potential pitfalls:
Step-by-step approach:
- Review your portfolio regularly to evaluate unrealised losses and gains.
- Identify investments that no longer fit your strategy.
- Calculate potential tax savings from realising losses.
- Consider transaction costs versus tax benefits.
- Maintain portfolio balance after selling.
Best practices:
- Consider the workload involved and, if appropriate, harvest losses throughout the year not just at year end.
- Avoid breaching wash sale rules by waiting the required time before repurchasing.
- Ensure that you trade instruments which are not “substantially identical”.
Tip: Keep a running tally of your gains and losses to identify tax harvesting opportunities before the tax year ends.
Investing for the Long Term
Potential tax efficiencies are not the only reason to consider applying a long-term approach to investing. Holding positions for extended periods reduces the frictional costs associated with overtrading, and your portfolio may also benefit from the compounding effect if you reinvest gains.
Tip: Adopting a long-term strategy gives you more time to plan tax-efficient exit strategies.
Every time you sell an investment at a profit, you may trigger a taxable event, and if that results in a tax deduction being made, that will reduce the amount available for reinvestment. These are some of the approaches that you can take to avoid frequent trading creating substantial tax liabilities
- Adopt a buy-and-hold strategy.
- Focus on quality investments you can hold for years.
- When rebalancing your portfolio, do so using new capital contributions rather than gains made from selling existing assets.
- Avoid trying to time the market and instead consider making regular investments using a recurring investment approach.
Final thoughts
Understanding and implementing tax-efficient investment strategies can potentially play a key role in a long-term investment strategy. Remember that tax-efficient investing isn’t about avoiding taxes illegally – it’s about using legitimate strategies to try to minimise your tax burden.
It’s also important to stay well-informed about changes to tax legislation and consider how different strategies might work together. And, of course, you need your investments to generate a positive return for them to come within the scope of tax laws. Which means that while tax efficiency is important, it shouldn’t be the only factor driving your investment decisions.
Visit the eToro Academy to develop and improve your investment strategies.
Frequently Asked Questions
- How can I determine my capital gains tax liability?
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Calculate your total gains by subtracting the purchase price from the sale price of your investments. Deduct any allowable costs and losses, then, subtract your annual CGT allowance. Then apply the appropriate tax rate based on your income level.
- What is the difference between tax avoidance and tax evasion?
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Tax planning is legal, while “tax evasion” is a criminal offence. Tax avoidance involves legally arranging your affairs to minimise tax, using reliefs and allowances as intended. Tax evasion involves illegally avoiding taxes through dishonest means, such as not declaring income or gains.
- Can I make an early withdrawal from tax-advantaged accounts?
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Tax-advantaged accounts are designed to encourage long-term investing and often have penalties relating to withdrawals made prior to a scheme’s intended maturity date. The losses associated with early withdrawals can be in the form of fees; the loss of gains include interest, and being unable to reinvest the funds back into the scheme.
- How many years can investment losses be carried forward?
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This will be dependent on your tax jurisdiction. There will be regional variations in terms of when and how you report losses, and the time period for which they can be used. Carrying out research based on your own personal circumstances is crucial, but taking the UK as an example, HMRC states that “you do not have to report losses straight away – you can claim up to 4 years after the end of the tax year that you disposed of the asset.”
- What types of savings interest are taxed?
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Most countries tax income earned in the form of interest. This is typically thought of as relating to bank accounts, building society accounts and credit union accounts, but can extend to other instruments as well. The exact details of what does and doesn’t fall within the scope will depend on your personal circumstances, but might include: open-ended investment companies (OEICs), investment trusts and unit trusts, government or corporate bonds, and life annuity payments and some life insurance contracts.
This information is for educational purposes only and should not be taken as investment advice, personal recommendation, or an offer of, or solicitation to, buy or sell any financial instruments.
This material has been prepared without regard to any particular investment objectives or financial situation and has not been prepared in accordance with the legal and regulatory requirements to promote independent research. Not all of the financial instruments and services referred to are offered by eToro and any references to past performance of a financial instrument, index, or a packaged investment product are not, and should not be taken as, a reliable indicator of future results.
eToro makes no representation and assumes no liability as to the accuracy or completeness of the content of this guide. Make sure you understand the risks involved in trading before committing any capital. Never risk more than you are prepared to lose.
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This communication is for information and educational purposes only and should not be taken as investment advice, a personal recommendation, or an offer of, or solicitation to, buy or sell any financial instruments. This material has been prepared without taking any particular recipient’s investment objectives or financial situation into account, and has not been prepared in accordance with the legal and regulatory requirements to promote independent research. Any references to the past or future performance of a financial instrument, index or a packaged investment product are not, and should not be taken as, a reliable indicator of future results. eToro makes no representation and assumes no liability as to the accuracy or completeness of the contents of this publication.