Tax Write Offs for Selling Stocks With Losses

Stocks that are sold for a loss can be written off for a tax benefit. The Internal Revenue Service has strict guidelines covering this tax write-off. It is important to understand these guidelines to properly deduct capital losses and to maximize the amount of the write-off.

Definition of a Capital Loss

A capital loss occurs when a stock is sold for less than the investor paid for the stock. In order for an investor to claim a tax write-off for a losing stock position, he must sell the shares. If the shares are not sold, the loss can not be written off.

Reducing Capital Gains with Capital Loses

Investors must pay capital gains tax on all investments that are sold for a profit. Investors can use capital loses to offset the capital gains that they have accumulated during the tax year. Suppose an investor has realized $20,000 in capital gains through the sale of stocks during the year. He also had a capital loss on a stock that lost $5,000. As a result of this capital loss, he will only need to pay capital gains tax on $15,000.

Matching Holding Times

The IRS classifies investments using two holding periods. The first holding period is short term. Short-term investments are those investments that have been owned for less than a year. The capital gains tax for a short-term investment is based on the individual's personal tax rate, which can be as high as 35 percent. The second holding period is long term. Long-term investments are those held for a year or more. The maximum capital gains tax on long term investments is 15 percent.
When writing off capital loses against capital gains, investors must match the holding periods. Short-term loses can only offset short-term gains. Long-term loses can only offset long term gains.

Writing Off a Loss if There are No Gains to Offset

Sometimes investors have more capital loses than capital gains. Investors can write off up to $3,000 more in loses than they have in gains. Any additional loses will be carried over to the next year. Suppose an investor has $5,000 in capital gains and $9,000 in loses. The $5,000 in gains will be offset by the capital losses. The investor will be able to take an additional $3,000 write off. The remaining $1,000 in loses will be carried over to the next tax year. The loss that is carried over to the next tax year can be used to offset capital gains earned in the next year.

Tip

As the end of the tax year approaches, it is wise for an investor to decide whether to sell a losing stock and use the capital loss to offset capital gains. This will reduce the amount of tax owed. Although investors should never make a financial decision solely for tax reasons, it is prudent to consider tax consequences when making all financial decisions.

References

• Internal Revenue Service

Resources

• Fairmark