Tax-aware long/short has a secret weapon
As long positions appreciate, portfolio equity grows and so does margin capacity, acting like a synthetic cash injection that sustains tax-loss harvesting potential
Tax-aware long/short has a secret weapon: margin
Margin allows tax-aware long/short strategies to conjure fresh cost basis out of thin air. That’s hyperbole, but not far off.
Get up to speed on tax-aware long/short strategies like the 130/30 and 250/150 here
In a long-only implementation, the portfolio’s tax-loss harvesting potential is limited by cost basis.
After each tax-loss harvest, the cost basis is lower and eventually too low to harvest. This is called “lock-in” since rebalancing could mean realizing net capital gains, and investors may prefer holding rather than realizing.
Investors may contribute additional cash to reinvigorate tax-loss harvesting potential, as Vanguard shows here.

Suppose an investor establishes a long/short portfolio with cash, shorts 30% of the portfolio, and uses the short-sale proceeds as collateral to take out a margin loan. That loan is used to purchase an additional 30% in long exposure, creating a 130/30 portfolio. At inception, this portfolio has maximum tax-loss harvesting potential.
In short positions, tax-loss harvesting is limited by cost basis, just like in long positions. However, as markets tend to drift upward, 1) many short positions may generate harvestable losses, and 2) appreciation in long positions boosts portfolio equity and margin capacity.
To see this in action, read the following infographic showing how margin sustains tax-loss harvesting potential. The gist is that margin acts like a synthetic cash injection, allowing portfolios to introduce new short positions with high cost basis (and high tax-loss harvesting potential).
I just want to confirm and clarify something. You say that "appreciation in long positions boosts portfolio equity and margin capacity". If your short book goes up by an equal amount, and holding all things equal that seems like a safe assumption, you don't gain any margin capacity.
If your account has 100K in equity, you are 130 long / 30 short. Let's say the market then doubles. You are now 260 long / 60 short, with 200 in equity, but you didn't gain any margin capacity. Your leverage was 1.6x before the rise in the market, and it's 1.6x after the rise in the market. You can obviously harvest losses in those short positions, but it's not quite the same as an injection in cash, right?
Now if you are using factor overlays, and those factor overlays generate alpha, that DOES create more margin capacity. So if you were 130 long / 30 short, and your factor overlay (let's say long value) generates 10% alpha (using a ludicrously large number for this example), and you are now 135 / 25 short, your leverage went from 1.6x to 1.45x, and you can now lever back up to 1.6x with what is essentially 'new cash'.