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I have a loss on some stocks. Can I get a tax break if I sell them off?
If you have lost some money in stocks or mutual funds this year, you can turn your losses into a tax break— if you sell your losing stocks or mutual funds before December 31.
You’ll lose money on each sale, but you can use those capital losses to offset any capital gains you may have had this year, or up to $3,000 in ordinary income. In essence, the money you lost can become a tax gain.
When should I sell?
How do I take the loss?
How can I sell, then repurchase stock while avoiding a wash sale?
When Should I Sell?
Of course, you should not sell just for a tax break. You should only sell if your investment truly has poor long-term prospects, or if it simply no longer fits into your investment plan.
Before you sell, make sure that your investment is really losing money. For example, if you invested $10,000 in a stock that appreciated to $15,000 in 2001 but lost $2,000 in 2002, that’s not a loss. You still have a $3,000 gain on your original investment. If your $10,000 investment is now worth $8,000, that’s a loss.
How Do I Take the Loss?
You can take the loss in stages:
1. You can write off any amount of capital loss against an equal amount of capital gain.
2. After you run out of gains to be offset, you can apply as much as $3,000 ($1,500 if you're married and filing a separate return from your spouse) in unused losses annually against ordinary income. Essentially, you are subtracting this from the income on which you will be taxed.
3. If you still have some loss left over, you can carry forward any additional capital losses to later years indefinitely.
You might want to consider using losses to offset any short-term gains because those gains are taxed as ordinary income at your regular tax rate. While the top capital gains tax rate is usually 15%, ordinary income can be taxed at rates as high as 35% for 2004.
How Can I Sell, Then Repurchase Stock While Avoiding a Wash Sale?
Another tax strategy is to sell a stock that you want to keep long-term, and then wait the IRS-mandated 31 days to buy back the stock. If you repurchase the same exact stock before 31 days, the purchase comes under the IRS’ wash-sale rule. A wash sale exists when you buy a security within 30 calendar days before or after you sell substantially the same security at a loss. Buying substantially the same thing that you sold for a loss 30 days earlier, and then attempting to take a deduction for the loss is a problem in the eyes of the Internal Revenue Service, which is why you can’t take a deduction for a loss on a wash sale. See FAQ on Wash Sales.
"If you are a long-term investor, 31 days will not make much of a difference," says Dean Mioli, personal financial planning manager at the American Institute of Certified Public Accountants in New York. "You’re betting the price will not be much different, and if it goes down, you could be in an even better position to buy." If you don’t want to wait the 31 days to repurchase the same stock, the IRS allows you to immediately reinvest the proceeds in any other stock of your choosing.
The wash-sale rule is the same for funds as it is for individual stocks. If you sell shares in the Eden fund, for example, you have to wait 31 days before returning to Eden. Or, you can immediately use your sale proceeds to purchase shares in any other fund.
Selling a losing mutual fund can be especially prudent because some funds with negative returns still provide large taxable distributions to investors. If you sell your shares before the distribution is declared, you can avoid paying taxes on a fund investment that had a losing year.
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