In years characterized by significant stock losses from almost everyone's portfolio, there's at least the small comfort of knowing that these losses can help you reduce your overall income tax bill. But tax regulations make some approaches and timing more effective than others. To get the maximum tax benefit, you must strategically deduct losses in the most tax-efficient way possible.
Key Takeaways
- Realized capital losses from stocks can be used to reduce your tax bill.
- You can use capital losses to offset capital gains during a taxable year, allowing you to remove some income from your tax return.
- If you don’t have capital gains to offset the capital loss, you can use a capital loss as an offset to ordinary income, up to $3,000 per year.
- To deduct your stock market losses, you have to fill out Form 8949 and Schedule D for your tax return.
- If you own stock that has become worthless because the company went bankrupt and was liquidated, then you can take a total capital loss on the stock.
Tips To Make Next Year’s Taxes Less Stressful
Understanding Stock Losses
Stock market losses are capital losses. They may also be referred to, somewhat confusingly, as capital gains losses. Conversely, stock market profits are capital gains.
According to U.S. tax law, the only capital gains or losses that can impact your income tax bill are "realized" capital gains or losses. Something becomes "realized" when you sell it. So, a stock loss only becomes a realized capital loss after you sell your shares. If you continue to hold onto the losing stock into the new tax year, that is, after December 31, then it cannot be used to create a tax deduction for the old year.
Although the sale of any asset you own can create a capital gain or loss, for tax purposes, realized capital losses are used to reduce your tax bill only if the asset sold was owned for investment purposes.
Stocks fall within this definition, but not all assets do. For example, if you sell a coin collection for less than what you paid for it, that does not create a deductible capital loss. (Irritating, since if you sell the collection for a profit, the profit is taxable income.) Also, if the losses you experienced are in a tax-advantaged retirement account, such as a 401(k) or IRA, they are generally not deductible.
Determining Capital Losses
Capital losses are divided into two categories, in the same way as capital gains are either short-term or long-term. Short-term losses occur when the stock sold has been held for less than a year. Long-term losses happen when the stock has been held for a year or more. This is an important distinction because losses and gains are treated differently, depending on whether they're short- or long-term.
To calculate for income tax purposes, the amount of your capital loss for any stock investment is equal to the number of shares sold, times the per-share adjusted cost basis, minus the total sale price. The cost basis price—which refers to the fact it provides the basis from which any subsequent gains or losses are figured—of your stock shares is the total of the purchase price plus any fees, such as brokerage fees or commissions.
The cost basis price has to be adjusted if there was a stock split during the time you owned the stock. In that case, you need to adjust the cost basis in accordance with the magnitude of the split. For example, a 2-to-1 stock split necessitates reducing the cost basis for each share by 50%.
Deducting Capital Losses
"You can use capital losses (stock losses) to offset capital gains during a taxable year," saysCFP®, AIF®, CLU® Daniel Zajac of the Zajac Group. Zajac adds:
By doing so, you may be able to remove some income from your tax return.If you don’t have capital gains to offset the capital loss, you can use a capital loss as an offset to ordinary income, up to $3,000 per year. (If you have more than $3,000, it will be carried forward to future tax years.)
To deduct your stock market losses, you have to fill out Form 8949 and Schedule D for your tax return. (Schedule D is a relatively simple form, and will allow you to see how much you'll save. If you want more information from the IRS, read Publication 544). Short-term capital losses are calculated against short-term capital gains, if any, on Part I of Form 8949 to arrive at the net short-term capital gain or loss.
If you did not have any short-term capital gains for the year, then the net is a negative number equal to the total of your short-term capital losses.
On Part II of Form 8949, your net long-term capital gain or loss is calculated by subtracting any long-term capital losses from any long-term capital gains. The next step is to calculate the total net capital gain or loss from the result of combining the short-term capital gain or loss and the long-term capital gain or loss.
That figure is entered on the Schedule D form. For example, if you have a net short-term capital loss of $2,000 and a net long-term capital gain of $3,000, then you are only liable for paying taxes on the overall net $1,000 capital gain.
If the total net figure between short- and long-term capital gains and losses is a negative number, representing an overall total capital loss, then that loss can be deducted from other reported taxable income, up to the maximum amount allowed by the Internal Revenue Service (IRS).
As of the tax year 2022, as mentioned above, you may deduct capital losses up to the amount of your capital gains plus $3,000 if your tax filing status is single or married, filing jointly. (The fact that it's the same for one single person, but two married people, is known as the "marriage penalty.") For someone who is married but filing separately, you may deduct capital losses up to the amount of your capital gains plus $1,500.
If your net capital gains loss is more than the maximum amount, you may carry it forward to the next tax year. The amount of loss that was not deducted in the previous year, over the limit, can be applied against the following year's capital gains and taxable income.
The remainder of a very large loss—for example, $20,000—could be carried forward to subsequent tax years, and applied up to the maximum deductible amount each year until the total loss is applied.
It is necessary to keep records of all your sales. That way, if you continue to deduct your capital loss for many years, you can prove to the IRS that you, in fact, had a loss totaling an amount far above the $3,000 threshold.
A Special Case: Bankrupt Companies
If you own stock that has become worthless because the company went bankrupt and was liquidated, then you can take a total capital loss on the stock; however, the IRS wants to know on what basis the value of the stock was determined as zero or worthless. Therefore, you should keep some kind of documentation of the zero value of the stock, as well as documentation of when it became worthless.
Basically, any documentation that shows the impossibility of the stock offering any positive return is sufficient. Acceptable documentation shows the nonexistence of the company, canceled stock certificates, or evidence the stock is no longer traded anywhere. Some companies that go bankrupt allow you to sell them back their stock for a penny. This proves you have no further equity interest in the company and documents what is essentially a total loss.
Considerations in Deducting Stock Losses
Always attempt to take your tax-deductible stock losses in the most tax-efficient way possible to get the maximum tax benefit. To do so, think about the tax implications of various losses you might be able to deduct. As with all deductions, it's important to be familiar with any laws or regulations that might exempt you from being eligible to use that deduction, as well as any loopholes that could benefit you.
For Losses, Short Term Is Better
Since long-term capital losses are figured at the same lower tax rate as long-term capital gains, you get a larger net deduction for taking short-term capital losses. Therefore, if you have two stock investments showing roughly equal losses, one you have owned for several years and one you have owned for less than a year, you can choose to take both losses.
However, if you want to realize only one of the losses, selling the stock you've owned for under a year is more advantageous, since the capital loss is figured at the higher short-term capital gains tax rate.
It is generally better to take any capital losses in the year for which you are tax-liable for short-term gains, or a year in which you have zero capital gains because that results in savings on your total ordinary income tax rate.
Know the 'Wash Sale' Rule
Do not try selling a stock right at the end of the year to get a tax deduction, and then buy it right back in the new year. If you sell a stock and then repurchase it within 30 days, the IRS considers this a "wash sale," and the sale is not recognized for tax purposes. You cannot deduct capital losses if you sold the stock to a relative. This is to discourage families from taking advantage of the capital loss deduction.
Pay Attention to Your Tax Bracket
Your income tax bracket matters. For the tax year 2022, if you are in the 10% or 12% tax bracket, you are not liable for any taxes on capital gains. Therefore, you do not have to worry about offsetting any such gains by taking capital losses. If you fall into that tax bracket and have stock losses to deduct, they will go against ordinary income.
How Do I Deduct Stock Losses on My Taxes?
To deduct stock losses on your taxes, you will need to fill out IRS Form 8949 and Schedule D. On Part I of the form, short-term capital losses are calculated against short-term capital gains to arrive at the net short-term capital gain or loss. On Part II of the form, your net long-term capital gain or loss is calculated by subtracting any long-term capital losses from any long-term capital gains. You will then calculate the total net capital gain or loss from the result of combining your short-term and long-term capital gain or loss.
How Much of a Stock Loss Can You Write Off?
The IRS allows you to deduct stock losses up to the amount of your capital gains plus $3,000 if you are a single filer or married filing jointly. If you are married filing separately, you can deduct up to the amount of your capital gains plus $1,500.
Can You Write Off 100% of Stock Losses?
You may only deduct 100% of your stock losses if the losses stem from a company that went bankrupt and the stock is now worthless. If there is any possibility of the stock having a positive value in the future, then you may not deduct 100% of the losses.
The Bottom Line
Since you have to pay taxes on your stock market profits, it is important to know how to take advantage of stock investing losses.Losses can be a benefit if you owe taxes on any capital gains—plus, you can carry over losses you can't deduct to use in future years.
The most effective way you can use capital losses is to deduct them from your ordinary income. You almost certainly pay a higher tax rate on ordinary income than on capital gains, so it makes more sense to deduct those losses against it.
It’s also beneficial to deduct them against short-term gains, which have a much higher tax rate than long-term capital gains. Also, your short-term capital loss must first offset a short-term capital gain before it can be used to offset a long-term capital gain.
Regardless of tax implications, the bottom line on whether you should sell a losing stock investment and realize the loss should be determined by whether, after careful analysis, you expect the stock to return to profitability. If you still believe the stock will ultimately come through for you, it is probably unwise to sell it just to get a tax deduction.
However, if you determine your original assessment of the stock was simply mistakenand do not expect it to ever become a profitable investment, then there is no reason to continue holding onwhen you could use the loss to obtain a tax break.
FAQs
You can't simply write off losses because the stock is worth less than when you bought it. You can deduct your loss against capital gains. Any taxable capital gain – an investment gain – realized in that tax year can be offset with a capital loss from that year or one carried forward from a prior year.
How do I deduct stock losses from my taxes? ›
To deduct your stock market losses, you have to fill out Form 8949 and Schedule D for your tax return. If you own stock that has become worthless because the company went bankrupt and was liquidated, then you can take a total capital loss on the stock.
How many stock losses can you write off? ›
If your net losses in your taxable investment accounts exceed your net gains for the year, you will have no reportable income from your security sales. You may then write off up to $3,000 worth of net losses against other forms of income such as wages or taxable dividends and interest for the year.
Do you need to itemize to deduct stock losses? ›
“The simple answer to your question is yes, you can deduct capital losses even if you take the standard deduction.”
How much capital gains can I offset with losses? ›
Up to $3,000 in net losses can be used to offset your ordinary income (including income from dividends or interest). Note that you can also "carry forward" losses to future tax years.
Can you write off 100% of stock losses? ›
If you own a stock where the company has declared bankruptcy and the stock has become worthless, you can generally deduct the full amount of your loss on that stock — up to annual IRS limits with the ability to carry excess losses forward to future years.
Are stock losses 100% deductible? ›
If your total capital losses exceed your total capital gains, you carry those losses over as a deduction to your ordinary income. Every year you can claim capital losses up to $3,000 as a deduction on your income taxes (up to $1,500 for married couples filing separately).
How much losses can I claim on taxes? ›
Capital Gains Rules to Remember
You can only apply $3,000 of any excess capital loss to your income each year—or up to $1,500 if you're married filing separately. You can carry over excess losses to offset income in future years.
What is the 8% stock loss rule? ›
To make money in stocks, you must protect the money you have. Live to invest another day by following this simple rule: Always sell a stock it if falls 7%-8% below what you paid for it. No questions asked. This basic principle helps you cap your potential downside.
At what percentage should you cut your losses on a stock? ›
The golden rule of stock investing dictates cutting your losses when they fall 10 percent from the price paid, but common wisdom just might be wrong. Instead, use some common sense to determine if it's time to hold or fold.
Capital losses can be used as deductions on the investor's tax return, just as capital gains must be reported as income. Unlike capital gains, capital losses can be divided into three categories: Realized losses occur on the actual sale of the asset or investment. Unrealized losses are not reported.
What type of losses can be claimed as an itemized deduction? ›
Casualty and theft losses are miscellaneous itemized deductions that are reported on IRS Form 4684, which carries over to Schedule A, then to the 1040 form. 4 Therefore, in order for any casualty or theft loss to be deductible, the taxpayer must be able to itemize deductions.
What qualifies as a capital loss? ›
What Is a Capital Loss? A capital loss is the loss incurred when a capital asset, such as an investment or real estate, decreases in value. This loss is not realized until the asset is sold for a price that is lower than the original purchase price.
Should I sell stock at a loss for taxes? ›
You want to reduce your taxable income
If you don't have investment gains to offset, or if you realize more losses than gains, you can use up to $3,000 in losses to reduce your ordinary income this year—and every year thereafter—until the entire loss is accounted for.
What is the difference between ordinary loss and capital loss? ›
Ordinary losses are separate from capital losses. An ordinary loss is fully deductible to offset income thereby reducing the tax owed by a taxpayer. Capital losses occur when capital assets are sold for less than their cost.
How many years can you carry forward a tax loss? ›
How Long Can Losses Be Carried Forward? According to IRS tax loss carryforward rules, capital and net operating losses can be carried forward indefinitely. Before the Tax Cuts and Jobs Act of 2017, business owners were limited to a 20-year window when carrying forward net operating losses.
What is the maximum loss of a stock? ›
A general rule for overall monthly losses is a maximum of 6% of your portfolio. As soon as your account equity dips to 6% below where it registered on the last day of the previous month, stop trading! Yes, you heard me correctly. When you have hit your 6% loss limit, cease trading entirely for the rest of the month.
Do I have to pay capital gains tax immediately? ›
You don't have to pay capital gains tax until you sell your investment. The tax paid covers the amount of profit — the capital gain — you made between the purchase price and sale price of the stock, real estate or other asset.
Which losses is not deductible? ›
Loss which is not incidental to trade or profession, carried on by the assessee. Loss incurred due to damage, destruction, etc., of capital assets. Loss incurred due to sale of shares held as investment. Loss of advances made for setting up of a new business which ultimately could not be started.
Can I offset losses against income? ›
You can set the loss from your self-employment against your other taxable income in the same tax year in which you made the loss and/or the tax year prior to that in which you made the loss. This reduces the tax that would otherwise be payable on your other income. This is known as sideways loss relief.
An investor may also continue to hold if the stock pays a healthy dividend. Generally though, if the stock breaks a technical marker or the company is not performing well, it is better to sell at a small loss than to let the position tie up your money and potentially fall even further.
Do losses have to be reported to IRS? ›
You must report all 1099-B transactions on Schedule D (Form 1040), Capital Gains and Losses and you may need to use Form 8949, Sales and Other Dispositions of Capital Assets. This is true even if there's no net capital gain subject to tax.
Do I get $3000 back from stock loss? ›
If your capital losses exceed your capital gains, the amount of the excess loss that you can claim to lower your income is the lesser of $3,000 ($1,500 if married filing separately) or your total net loss shown on line 16 of Schedule D (Form 1040). Claim the loss on line 7 of your Form 1040 or Form 1040-SR.
What is the 80% rule stock? ›
In investing, the 80-20 rule generally holds that 20% of the holdings in a portfolio are responsible for 80% of the portfolio's growth. On the flip side, 20% of a portfolio's holdings could be responsible for 80% of its losses.
What is the 7% loss rule? ›
If you limit losses on initial purchases to 7% or 8%, you can stay out of trouble, even if only one out of four buys delivers a modest profit of 25% or 30%. You can be wrong three out of every four times and still live to invest another day.
What happens if you lose 100% of your stock? ›
The price of a stock can fall to zero, but you would never lose more than you invested. Although losing your entire investment is painful, your obligation ends there. You will not owe money if a stock declines in value.
How do you deal with large stock losses? ›
How To Deal With Your Losses
- Analyze your choices. Review the decisions you made with new eyes after some time has passed. ...
- Recoup what you lost. Tighten your financial belt for a while if you must. ...
- Don't let losses define you. Keep the loss in context and don't take it personally.
Summary and conclusion - Stop-loss strategies work
The best trailing stop-loss percentage to use is either 15% or 20% If you use a pure momentum strategy a stop loss strategy can help you to completely avoid market crashes, and even earn you a small profit while the market loses 50%
What are 3 examples of an itemized deduction? ›
Itemized deductions include amounts you paid for state and local income or sales taxes, real estate taxes, personal property taxes, mortgage interest, and disaster losses.
What is the 2 rule on itemized deductions? ›
Floored by taxes
Q: What's the “2 percent floor” in tax talk? A: It refers to miscellaneous itemized deductions. You can deduct only the portion of them that exceeds 2 percent of your adjusted gross income (AGI). For example, if your AGI is $50,000, your floor will be 2 percent of that, or $1,000.
Types of itemized deductions
- Mortgage interest you pay on up to two homes.
- Your state and local income or sales taxes.
- Property taxes.
- Medical and dental expenses that exceed 7.5% of your adjusted gross income.
- Charitable donations.
If unused capital losses remain, a maximum of $3,000 of net capital losses, whether short- or long-term, can be deducted annually to reduce ordinary income. However, married taxpayers who file separate tax returns are subject to an annual ceiling of $1,500 for such losses.
Do you have to list every stock trade on your tax return? ›
Enter all sales and exchanges of capital assets, including stocks, bonds, and real estate (if not reported on line 1a or 8a of Schedule D or on Form 4684, 4797, 6252, 6781, or 8824). Include these transactions even if you didn't receive a Form 1099-B or 1099-S (or substitute statement) for the transaction.
How do I report stocks on my taxes? ›
Capital gains and deductible capital losses are reported on Form 1040, Schedule D, Capital Gains and Losses, and then transferred to line 13 of Form 1040, U.S. Individual Income Tax Return. Capital gains and losses are classified as long-term or short term.
Can stock losses offset real estate gains? ›
Absolutely. When an investor experiences short or long-term losses from stock trades, these losses can be used to offset capital gains in other areas like real estate sales.
What is the wash sale rule? ›
A wash sale is an IRS rule that prevents a loss being taken on the sale of a security if that same security or a substantially identical one is then bought within the same 30 day period. Investor.gov. "Wash Sales." Internal Revenue Service.
Can you carry forward 80% of tax losses? ›
The Act included a provision limiting net operating losses (NOL) incurred after Dec. 31, 2017, to 80% of taxable income rather than the historical 100%. This change was overshadowed by the Coronavirus Aid, Relief, and Economic Security (CARES) Act and eventually was delayed to tax years beginning after Dec. 31, 2020.
Which losses Cannot be carried forward? ›
You cannot carry forward loss to future years if the income tax return for the year in which loss is incurred is not filed within the due date as per Sec 139(1). However, if you have incurred loss under head house property, you can carry forward the loss even if the return is filed after the due date.
Does Turbotax automatically carry over capital losses? ›
If you transferred last year's return over, we automatically include the carryovers. However, it's always a good idea to keep a written record of your expected carryover amounts to compare against your return.
Can I offset a loss on shares against income tax? ›
Usually, capital losses can only be set off against capital gains. However, capital losses suffered on an unquoted trading business can be offset against income, potentially saving tax at 45%. You can 'bed and breakfast' shares by selling them and buying them back later.
Your Schedule K-1 loss will first offset long-term capital gains from the same year. If the loss isn't absorbed that way, it offsets short term capital gains. If a loss still remains, you can reduce future ordinary income by up to $3,000 per year on page one of Form 1040 until you use up all of the loss.
Are day trading losses tax deductible? ›
The Mark-To-Market Method
This method takes advantage of the ability of day traders to offset capital gains with capital losses. Investors can get a tax deduction for any investments they lost money on and use that to avoid or reduce capital gains tax. Normally, you can only deduct up to $3,000 in losses.
How much capital loss can you carry forward? ›
The IRS caps your claim of excess loss at the lesser of $3,000 or your total net loss. Capital loss carryover (also known as carryforward) comes in when your total exceeds that $3,000, letting you pass it on to future years' taxes. There's no limit to the amount you can carry over.
What kind of losses are tax deductible? ›
Casualty and theft losses are deductible losses that arise from the destruction or loss of a taxpayer's personal property. To be deductible, casualty losses must result from a sudden and unforeseen event. Theft losses generally require proof that the property was actually stolen and not just lost or missing.
Should I sell stocks at a loss for tax purposes? ›
You want to reduce your taxable income
If you don't have investment gains to offset, or if you realize more losses than gains, you can use up to $3,000 in losses to reduce your ordinary income this year—and every year thereafter—until the entire loss is accounted for.
Is a tax loss a good thing? ›
Tax-loss harvesting is a good idea when it fits with your overall long-term investment strategy. That is, if you're rebalancing your portfolio in order to bring it back in line with your personal risk/reward profile, you may want to jettison a losing stock.
Why is my K-1 loss not deductible? ›
Possible reasons a loss reported on a K-1 form would not be deducted on your tax return would be that it is from a passive loss or you do not materially participate in the business. Also, you cannot deduct a loss if you are not "at risk" for the amount of the loss.
What is the maximum k1 loss? ›
This special allowance allows up to $25,000 of rental real estate loss to be deducted against nonpassive income for those taxpayers with modified adjusted gross income less than $150,000.
Do traders pay taxes on losses? ›
You can use up to $3,000 in excess losses per year to offset your ordinary income such as wages, interest, or self-employment income on your tax return and carry any remaining excess loss to the following year. If investments are held for a year or less, ordinary income taxes apply to any gains.
Do you have to report trading losses to IRS? ›
You must report all 1099-B transactions on Schedule D (Form 1040), Capital Gains and Losses and you may need to use Form 8949, Sales and Other Dispositions of Capital Assets. This is true even if there's no net capital gain subject to tax.
You are therefore entitled to fully deduct your trader-related expenses on Schedule C of Form 1040 just like any other sole proprietor. However, unlike most sole proprietors, you don't have to pay the dreaded self-employment (SE) tax on your net profit from trading.
