Still Buying VOO or SPY? Why Wealthy Investors Are Switching to Direct Indexing to Slash Their Tax Bills

For the last decade, ETFs (Exchange Traded Funds) like VOO or SPY were the kings of investing.
They offered instant diversification at a low cost.
But they have one limitation: Inability to Harvest Individual Losses.

If the S&P 500 is up 10%, you have a gain. But inside that index, some stocks (maybe Tesla or Nike) might be down 20%.
With an ETF, you are stuck holding those losers.
With Direct Indexing, you can sell those specific losers to lower your taxes while keeping your portfolio growing.

Disclaimer: Direct Indexing adds complexity. Wash Sale rules apply across all your accounts. Consult a tax advisor.

Still Buying VOO or SPY?

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1. What Is Direct Indexing?

Instead of buying 1 share of an S&P 500 ETF, you buy all 500 individual stocks that make up the index.
In the past, this was impossible for normal people because of trading commissions.
Today, thanks to $0 commissions and Fractional Shares, software can do this for you instantly.

You own the actual shares (Apple, Microsoft, Amazon...), not a fund.

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2. The Superpower: Turbo-Charged Tax-Loss Harvesting

This is why the rich love it. It generates "Tax Alpha."

🍎 ETF vs. Direct Indexing Example

• ETF Scenario: The market is up +8%. You want to withdraw cash. You sell your ETF and pay Capital Gains Tax on the profit.
• Direct Indexing Scenario: The market is up +8%. But 150 stocks inside are down. The software sells only the losers to generate a "Capital Loss."

The Result: You get your cash, AND you get a tax deduction to offset your other income (up to $3,000 against ordinary income, unlimited against gains). It turns a withdrawal into a tax benefit.

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3. Customization (ESG & Personal Values)

With an ETF, you buy everything—including oil companies or tobacco firms you might dislike.
With Direct Indexing, you can tell the software:
"Buy the S&P 500, but exclude Exxon and Philip Morris."
You get the performance of the market while aligning with your personal values.

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4. The Hidden Traps (Read This Before Signing Up)

Direct Indexing isn't perfect. Be aware of the "Lock-In" effect.

• The "Hotel California" Problem: If you ever cancel the service, you are left with 500 tiny stock positions in your account. Moving them to another broker is a logistical nightmare.
• Wash Sale Risk: If the software sells Tesla to harvest a loss, but you buy Tesla in your separate Robinhood account within 30 days, the tax benefit is disallowed.
• Fees: Providers charge 0.25% to 0.40%. The tax benefit must outweigh this fee (plus the 0.03% you'd pay for VOO).

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5. Who Is This For?

Direct Indexing is mathematically superior ONLY if:

1. You have a Taxable Account (Not IRA/401k).
2. You have a balance of $100,000+ (Below this, the fee often eats the tax savings).
3. You are in a high tax bracket (32%+ federal + state tax).

The Future of Investing Is Personalized

ETFs were the "Blockbuster Video" of finance—great for their time.
Direct Indexing is the "Netflix"—personalized, efficient, and smarter.
If you have a significant taxable portfolio, stop paying unnecessary taxes. Let software harvest your losses while you sleep.

Helpful Resources:
Fidelity Managed FidFolios
Wealthfront: Automated Tax-Loss Harvesting